Using my 401K to pay off cc debt

[Jlferris03]

I am 28 year old trying to figure out if I should use my 401k to pay off credit card debt. I just landed a new job that pays me $1,700 bi-weekly (after taxes and other deductions). So I am taking home $3,400 a month. I have about $16,700 in credit card debt and my 401k has a value of $11,0000. I know I will incur tax penalties since I am using the money before retirement. I really just want to get out of debt and am not sure if should hold off in touching that money to pay off most of my debt. My other thought is using the snowball effect from Dave Ramsey but I am just feed up in seeing those high balances and want to pay them off once and for all. Any advice would be greatly appreciated.

Thank you,

JLFerris

[Petunia 100]

I am 28 year old trying to figure out if I should use my 401k to pay off credit card debt. I just landed a new job that pays me $1,700 bi-weekly (after taxes and other deductions). So I am taking home $3,400 a month. I have about $16,700 in credit card debt and my 401k has a value of $11,0000. I know I will incur tax penalties since I am using the money before retirement. I really just want to get out of debt and am not sure if should hold off in touching that money to pay off most of my debt. My other thought is using the snowball effect from Dave Ramsey but I am just feed up in seeing those high balances and want to pay them off once and for all. Any advice would be greatly appreciated.

Thank you,

JLFerris

My advice is make a budget, cut unnecessary spending, and pay down your debt from your income as quickly as you can. When you retire, will you want to eat? Will you want to live indoors? You will, so don't raid your retirement money to pay down your credit card balances. That is not a solution to over-spending.

Best of luck to you.

[jpg7n16]

My other thought is using the snowball effect from Dave Ramsey but I am just feed up in seeing those high balances and want to pay them off once and for all. Any advice would be greatly appreciated.

I'll let Dave Ramsey himself answer this one:

Dave Ramsey: Never cash out 401(k) to pay off debts » Knoxville News Sentinel

Please read the article. Reposting here for convenience --

From: Dave Ramsey: Never cash out 401(k) to pay off debts » Knoxville News Sentinel by Dave Ramsey

Q: Is it a good idea for a married couple in their early 30s, who have a lot of student loan debt, to cash out one of their 401(k)s to pay it off?

A: No way! You never cash out a 401(k) or IRA to pay off debt, unless it's to avoid a foreclosure or bankruptcy.

Let's say you take $50,000 out of your 401(k). Do you know what happens next? They're going to charge you a 10 percent penalty, plus your tax rate.

If you make $75,000 a year, that puts you in a 25 percent tax rate, plus the penalty. That's a 35 percent hit, and that's how much of your money is going straight down the toilet.

Look at it this way. You wouldn't ask me if it's OK to borrow money at a 35 percent interest rate to pay off your school loans, right? That would be ridiculous, and this is just as dumb.

There are no shortcuts when it comes to getting out of debt. Roll up your sleeves and get on a beans and rice budget where every dollar has a name. This will enable you to save money and pay off that debt!

[disneysteve]

I have about $16,700 in credit card debt and my 401k has a value of $11,0000.

JPG already gave a great response, so let me just elaborate by looking at the numbers.

If you cash out $11,000 from your 401k, you will pay $1,100 as a penalty plus 25% in taxes for another $2,750. So your $11,000 will only net you $7,150. That will pay off only 43% of your debt and you will have decimated your retirement savings in the process. Worth it? Absolutely not.

Do as Petunia (and Dave Ramsey) says. Make a budget, as bare bones as possible. Use your income to repay your debt. I would be fine with you freezing your 401k contributions for the moment to speed up the debt repayment but definitely don't dip into the 401k savings.

[BMEPhDinCO]

If you post your budget and CC we can help with how to approach it, but I agree with others - don't cash out retirement to pay off debt. Just image that conversation with your 80 year old self...

You now: "But I wanted to pay off some CC debt"

You at 80: "But now we have no food and the heat was just shut off"

You now: "But I got out of debt a bit faster"

You at 80: "So be it - we'll just starve slowly to death now instead of you paying for a bit longer earlier"

You get the idea... go slow and steady to win the race... post the budget, we'll help you sort it out.

[YLTL_Dan]

Another thing to think about - cashing out your 401k is a little like hitting the lottery because it feels like a windfall. If you use the Dave Ramsey method, you'll be forced to change your habits which oftentimes leads to a permanent change.

[Tree0164]

Another thing to think about - cashing out your 401k is a little like hitting the lottery because it feels like a windfall. If you use the Dave Ramsey method, you'll be forced to change your habits which oftentimes leads to a permanent change.

You have already gotten great answers-but you need to change your habits first because alot of folks if they get a windfall will simply get back into "bad habits" again

[snafu]

I'm guessing your $11K CC debt resulted from accumulated consumer spending + interest. Doing the tough work of short term, careful money management truly has a long term benefit as you'll likely not mess up spending again. Every dollar must be given a 'job,' each purchase must be justified as 'need,' not 'want' short term. Every dollar you can squeeze goes to CC. Look at bank charges and every tiny expenditure. You'll hate looking out for pennies but it helps add up to dollars.

We all have expenses we don't control like rent, utilities, car loan, student loan etc. Having subtracted out that total... Decide each pay cycle how much must be allocated for gas[transportation to work], food [eat at home, take lunch & snack to work] and allowance for personal spending. Once you've used up those sums stop spending in that category until the next pay cycle. Consider finding some short term, part time work with every dime going to getting that debt off your back quickly. Just add up the interest charges for the past 6 months. You want to stop that useless outflow. We're here to help, offer suggestions and cheer every step you take towards your goal.

[lhkorn99]

What;s the interest on the credit card debt, maybe you can do a balance transfer to a zero percent or low interest rate offer and pay it off that way?

[ksgirl39]

What;s the interest on the credit card debt, maybe you can do a balance transfer to a zero percent or low interest rate offer and pay it off that way?

I was thinking this exact same thing. See if you can transfer the money to a 0% interest credit card and that should help. Then stop using your card. Set up a budget to see what it would take to pay it off in a year. (I think this is most likely what most credit cards might give you as far as a 0% interest offer.) I saw some mention Dave Ramsey and that's an excellent idea. You are most likely going to have to make some cuts somewhere in your budget.

I would absolutely not take the money out of your 401K. Not only will you regret it later, but the penalties you'll pay will hardly make it worth it. Worst case scenario, take what you are contributing to your 401K and use it to pay off the credit card. Of course, don't give up a company match. For example, if your company matches at 3% and you are contributing 6% you could temporarily reduce your contribution to 3%. Then use that 3% you were contributing and apply it towards your credit card to get it paid off quickly. Just make sure it's only a temporary thing until you are out of debt.

I don't know what other type of expenses you have or what the rest of your financial situation is, but I think you could do this pretty easily. It might require some drastic cuts, but I'm sure it can be done.

[thomasdan]

call the company that is managing your 401k

cashing out of your 401 k is different from taking a loan out,

how most 401 k works if you take a loan

1) you will be charge a set up fee *(varies from 50 or so.)dnt quote me on exact. its not alot though.

2) you will determine a time frame to pay it back.and that will determine how much you owe bi weekly.

3) they will take money out of your paycheck bi weekly*(after taxes), including intrest to pay back your 401k. so basically you pay intrest to your self.

4) if you quit or get fired before the loan is payed back.. you have to pay in full. or get charge a penalty.

the only default for taking out a loan is that your'e losing money if the market is doing good. becasuse you wont have the high amount in there to invest. hope that makes sense.

its really not that bad of a choice if you plan to stay at ur job for awhile. i dont know your finicial situation in detail. so i would call the company that is managing your 401 k and just ask a bunchof question.

google- taking a loan from your 401 k. that will tell you the whole process.

[Manthony]

YES! You should pay off that debt with your 401k money. Yes, there will be a tax hit, but so what? $11,000 is not a lot of money for taking that tax hit. What many of you fail to mention is that the interest saved on $16,000 in debt over time is more than the tax hit he'll take.

Not to mention, the stock market will crash again at some point, making your 401k savings even less anyway, or worse, worthless. I'd rather have my money out of the markets and out of debt, first and foremost! Now that you're out of debt, you will be in a much better position to save that money right back, and quicker too, with no interest payments hanging over your head.

Also, 401(k)s were never meant to be a savings plan anyway - they were originally designed to supplement pensions and social security and this has not changed. Wall Street and big business marketing made this a plan that everyone "thinks" they need when they are nothing but a sham! The ONLY reason to even have a 401k is for the company match.

Also, most of the "conventional wisdom" already offered is based on limited thinking, as in, working for someone else for the rest of your life. If that's your plan, then the guys advising you above, to not cash in your 401(k) may be a good idea. Rich, self-made people do not think like this at all! They don't even have 401k's...hmmm... I wonder why?! How about going to work for yourself? Investing and thinking for yourself? This in itself, changes all that conventional mumbo-jumbo!

Cash in the 401(k) and pay off the debt, then save and invest directly in the DRIPs of dividend paying companies like Exxon Mobile, Altria Group, McDonalds, Johnson and Johnson, Thompkins Financial, Brookfield Asset Management, etc, and stay out of that national (global?) casino called the stock market. Start your own business in something!

[disneysteve]

Welcome to the site Manthony. What a way to make your first post.

YES! You should pay off that debt with your 401k money. Yes, there will be a tax hit, but so what? $11,000 is not a lot of money for taking that tax hit. What many of you fail to mention is that the interest saved on $16,000 in debt over time is more than the tax hit he'll take.

OP didn't mention the interest rate on the credit cards so let's assume that it 19% which is fairly common. Cashing out the 401k will cost him 35% so your statement that he'll save more in interest than it will cost him is just plain wrong.

401(k)s were never meant to be a savings plan anyway - they were originally designed to supplement pensions and social security and this has not changed.

There is some truth to this. 401ks weren't designed to replace pensions - BUT THEY HAVE. So the reality is that for about 50% of all workers, 401k plans are the only choice today for an employer-sponsored retirement plan. If you don't take advantage of the 401k with its $17,500 annual contribution limit, your only other choice is the $5,500 limit for a Roth IRA. If you earn more than $37,000, a Roth doesn't cut it as far as tax-advantaged retirement savings.

[jpg7n16]

YES! You should pay off that debt with your 401k money. Yes, there will be a tax hit, but so what? $11,000 is not a lot of money for taking that tax hit.

Then isnt' the flipside of that "$11,000 is not a lot of money for incurring interest charges"?

Either it's not a lot, so the interest charged doesn't matter, or it is a lot, so the taxes/penalty matters. Which one is it?

What many of you fail to mention is that the interest saved on $16,000 in debt over time is more than the tax hit he'll take.

I'll make a more detailed response then.

Cashing out $11k adds to your top marginal rate, and increases your income by $11k. Prob 25% bracket. + 10% penalty. Minus the opportunity costs of being invested over the same timeframe.

So using DS's numbers, not only are you costing 35%, but you're also missing the expected 7-11% annual returns - in order to save 19%.

An alternative in many cases is a 0% balance transfer + a budget.

There are many CC companies that offer the ability to transfer balances for a promotional 0% rate. That eliminates that interest charges, certainly making paying a penalty to withdraw your 401k an even less attractive option.

Not to mention, the stock market will crash again at some point, making your 401k savings even less anyway, or worse, worthless.

Man, I'd like to have the crystal ball that you do.

Let's talk a few stock market facts. 1) Crashes happen. Everyone rememebers 2008, so no evidence needed. 2) Every stock market crash has been followed by a huge rally. Dow is currently at all time highs, just 5 years after 2008. A long term investor able to ride out the market volatility has always made money over long periods. Even accounting for market crashes. 3) There could be a long time before the next market crash. Consider the 80's and 90's as possibility here. Throughout both decades, the worst down year was -5.3%. The average return over the same timeframe was close to 17%. You would have had to wait 20 years for the major crash, and missed out on 20 years of 17% average returns to do so. It's hard to predict when crashes will happen.

If the market is constantly making money long term, it will always be hitting new highs at some point.

I'd rather have my money out of the markets and out of debt, first and foremost! Now that you're out of debt, you will be in a much better position to save that money right back, and quicker too, with no interest payments hanging over your head.

So the point of being out of debt is to let you save money, therefore of the money you have saved, you should cash it out (paying penalties to do so) to pay off the debt so that you can save it again??

Wouldn't it be easier (and cheaper) to just keep the savings you have and pay off your debts from your income?

Also 0% balance transfers can alleviate interest concerns. Use them wisely and stick to your budget. Debt free in no time w/o harming your existing savings.

Rich, self-made people do not think like this at all! They don't even have 401k's...hmmm... I wonder why?! How about going to work for yourself? Investing and thinking for yourself? This in itself, changes all that conventional mumbo-jumbo!

You sir, have clearly never worked with any of my clients. There are plenty of people who are rich today, because they saved in a 401k, or similar plan, available through work.

I think it's very odd that you advise against a 401k (which is a personal investment account) and then say instead that one should invest for themselves... in what account?? how about doing your savings in a tax deferred account so that you can defer taxes each year on investment earnings making your compound earnings grow faster? If that sounds good to you, there is a tax deferred account called a 401k that you might be interested in using.

Cash in the 401(k) and pay off the debt, then save and invest directly in the DRIPs of dividend paying companies like Exxon Mobile, Altria Group, McDonalds, Johnson and Johnson, Thompkins Financial, Brookfield Asset Management, etc, and stay out of that national (global?) casino called the stock market. Start your own business in something!

Are you aware that DRIP programs buy stocks -- in the stock market you say not to be in?

http://www.investopedia.com/terms/d/dividendreinvestmentplan.asp

[cardtrick]

Look for credit unions or small banks in your area. They might be willing to lend you money at significantly lower rates, to pay off your CCs. You will have to do some research. Call around and ask. My bank gave me a credit card at 7.49% interest. They didn't have this advertised on their website. My credit score is 780, so if your score is high, this could be a great option for you.