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4 reasons you shouldn’t borrow from retirement to pay off debt

On Behalf of | Oct 12, 2015 | Credit Card Debt

If you constantly struggle to pay your bills only to fall further behind each month, it’s natural to feel a little desperate. In your search for a solution, you may have considered tapping into your 401K to get those creditors off your back. Retirement fund loans usually come with a five-year payback schedule and a low interest rate.

Tempting, isn’t it? On side of your financial picture, you have debt that’s growing out of control. On the other side, you have a nest egg for a time in your life that is years away — perhaps even decades. If you’re borrowing from yourself, what’s the problem?

It turns out there are several problems. Consider the following before you take this unnecessary risk:

1. You’re only compounding your debt problem. No matter how many unpaid bills you have now, your retirement years — during which you’ll have much less income than you do today — will be more challenging. Don’t put your future self in jeopardy when at present you have more debt repayment options.

2. You’ll lose money by paying taxes — twice. One of the biggest advantages of a 401K is that it’s funded with pre-tax dollars. But when you access 401K funds early through a loan, you’ll repay it with after-tax money — only to pay taxes on those repaid funds again when you withdraw them during retirement.

3. You’ll be tied down to your current job. If you leave your job (by your choice or your employer’s) you will be required to pay back your loan in full within 90 days and after that, the balance becomes taxable income. Are you prepared for the stress and added cost of having the IRS on your back?

4. You have a much better option. You can save your 401K and discharge your debt through bankruptcy. Most retirement funds are exempt whether you file Chapter 7 or Chapter 13, so they cannot be taken away from you. Why sacrifice those funds you’ve worked so hard to save when there’s an easier way to solve your debt problems?

If your debt is starting to feel like a chokehold, the last thing you should do is tighten it by borrowing from your future. You’ll incur much less risk with a free consultation with an attorney who can analyze your entire financial picture and discuss your best debt relief options.


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