Dipping into the nest egg to pay for today's debts

[Ceicei]

At my work, I see so many people coming in seeking for help with finances and employment. Some of them are either in the process of divorcing or have divorced due to their financial problems (among other problems). I am seeing a lot of the following:

More and more people are borrowing and withdrawing from their retirement plans to pay for their credit cards, mortgages, home equity loans, and even their car payments.

Some people hope that they will eventually be able to pay back their 401ks once all their other debts are taken care of or resolved. Yet, if they, by unforeseen circumstances, default on their 401k loans, there are attached tax penalties and withdrawal fees. Some choose to withdraw entirely, on the premise that their money is already theirs, to pay off the debts in exchange for smaller retirements. They do not want to face bankruptcy. Often times, the interest rates of the 401k loans are much lower than the the rates on their credit cards. It makes more sense to these people to borrow from the 401k/retirement plans to pay off the credit card debts and then just focus on paying their retirement loans. (Unfortunately, sometimes they end up racking up more debt even after taking out the retirement loans.)

For those who are already drowning, I can understand the feeling that this may be their only choice or their last resort to dip into their retirement plans.

There is an article in the news discussing the very same issue:

http://www.msnbc.msn.com/id/23241606/

What suggestions can be made for those who already are struggling and are forced by circumstances to live within their means while now having to use their 401ks or other retirement plans to pay heir debts?

If in an ideal world, what would be the answer? Some say in such a world, interest would never be invented, life would be much, much different, and we wouldn't have to deal with such "soul-less, unforgiving creditors" and still keep the retirement plans. (I get this type of comment many times from frustrated clients who seek to blame their problems on other things than themselves and wish for a different world.) Life being what it is--there is no such thing as an ideal world.

- Ceicei

Here are some of my suggestions. Try to avoid tapping into the 401k by looking at all other options first. Some options could be: Request financial accounts to remove the over-draft protection features as there is no point in running up more debt--if the money isn't there, the money just is *not* there, period. (Without the over-draft protection feature, the "overdraft" fees associated in addition to borrowed funds are thus eliminated or reduced). Credit cards should be closed or be put aside in an inaccessible place--no more charges made--just remaining payments to pay off. Sitting down weekly to look at the financial records and making a budget each week using only the available funds that you get--nothing else.

 

[crushing]

Here are some of my suggestions. Try to avoid tapping into the 401k by looking at all other options first. Some options could be: Request financial accounts to remove the over-draft protection features as there is no point in running up more debt--if the money isn't there, the money just is *not* there, period. (Without the over-draft protection feature, the "overdraft" fees associated in addition to borrowed funds are thus eliminated or reduced). Credit cards should be closed or be put aside in an inaccessible place--no more charges made--just remaining payments to pay off. Sitting down weekly to look at the financial records and making a budget each week using only the available funds that you get--nothing else.

Great suggestions. Not only would you pay taxes on the borrowed 401k money, plus the 10% penalty for early withdrawal, but you also lose the interest that money would be gaining had it been left alone.

I agree that having a budget is key! People should look at their income and make sure every incoming dollar has a name. Pay necessities first; roof over the head, food, lights, transportation.

To help break from the credit cards, create an emergency fund that you can dip into when needed, rather than charging.

What kind of car note is there? Sell the car and get a cheap serviceable used car. Keep on track and you can get a better car later. Have a yard/garage sale to clean out the house and raise some money.

No more eating out until things are in order. Pack a lunch instead of going out for lunch. I've saved at least $150 in the last couple months by packing a sandwich and a fruit for lunch rather than going out. I could save more but I still go out on Wednesdays.

For the last couple months I've been following the plan put forward in the book The Total Money Makeover by Dave Ramsey. I wish I had started sooner.

 

[Grenadier]

Good advice so far... There are ways to get the money that you need, without ravaging your nest egg.

While it may be tempting to withdraw part of your retirement funds in order to take care of those 10-20% credit card bills, after the penalties are paid, you've already lost a significant amount.

Scrimp and pinch as much as you reasonably can. While it's not pleasant, you can live on cheaper meats, pasta, potatoes, and vegetables (the grad student diet). You can cut down on internet costs by going with the cheapest DSL connection or even dialup, instead of that really nice 6.0 mbps connection.

Possessions that you really don't need, can be sold. If anything, you'll be grateful that you cleared out a lot of junk. If you're one of those folks who lived through the 70's, you may be surprised at what you can sell on eBay, especially regarding those old clothes. Just make sure you empty out the pockets before you sell them.

One strategy that some people use, just for some mental reinforcement, is to pay off their smallest debt first. Once it's completely paid off, then apply that money towards the next smallest debt, until it's paid off completely. Even though some of those smaller debts may have a lower interest rate, at least you can see some progress along the way, since a lot of folks get discouraged while trying to pay down their debts.

 

[MA-Caver]

Here's another idea. However the way you do it. Pay off those credit cards and cut the damn things in half and start paying cash for everything. They were a nice idea at the start. But they were originally designed for honest people who could honestly afford paying the interest. But greed settled in the lending institutions when they realized that they could make boo-koos of money by giving the card to anyone regardless of their ability to pay.
Now it's hard to even GET one due to bad credit history thanks to the same institutions who initiated it.

Pay off those cards and either get rid of them or use them for emergency spending only, like unforseen vacation expenses when your car breaks down or has a flat and instead of dipping into the vacation money use the card. Or for medical emergencies or whatever... but for plain ole' shopping? Save up for what you want and then pay for it in cash.

Leave your retirement alone. Income doesn't last forever, neither do jobs/careers, social security is in doubt. Leave your retirement alone. It may be all that you'll have when you're old and grey.

 

[Sukerkin]

Wise words coming out here, ladies and gents. I'm with Caver when it comes to spending. If I don't have the money for it, then I don't buy it. Simple as that.

For on-line transactions, I have a debit card rather than a credit card, so I can never unknowingly spend more than I have .

Then again, as an economist and an AAT qualified accountant I guess such frugality is not much of a surprise - tho' I have to say that much of my money 'wisdom' came from my childhood, where I had to 'work' for my pocket money and was never given much (not that we had much beyond the roof over our head, to be truthful). That might sound bad but it meant I got used to saving up for things that I wanted {for as long as a year for some things, which to a pre-teen is a lifetime :lol:}.

 

[Brian Johns]

I agree with many of the wise observations made here. I tend to be on the conservative side when it comes to spending and saving. I'm appalled at times at the lack of saving for retirement by many of my friends and associates (though I don't say so to their faces). I intend not to rely on the govt to bail me out when I retire. Speaking of dipping into retirement funds, I personally know of one guy who took $200,000 out of his retirement funds to build a martial arts school. Of course, he had to pay taxes and early withdrawal penalties. Then he ran into construction bills that were over his budget. Dumb dumb dumb. Just unbelievable.:jaw-dropping:

 

[MA-Caver]

Wise words coming out here, ladies and gents. I'm with Caver when it comes to spending. If I don't have the money for it, then I don't buy it. Simple as that.

For on-line transactions, I have a debit card rather than a credit card, so I can never unknowingly spend more than I have .

Then again, as an economist and an AAT qualified accountant I guess such frugality is not much of a surprise - tho' I have to say that much of my money 'wisdom' came from my childhood, where I had to 'work' for my pocket money and was never given much (not that we had much beyond the roof over our head, to be truthful). That might sound bad but it meant I got used to saving up for things that I wanted {for as long as a year for some things, which to a pre-teen is a lifetime :lol:}.

Well yeah, but being poor sometimes helps in learning the importance of money and the importance of spending it wisely. I own roughly $1200.00 worth of caving gear (for example) and folks who know I'm poor ask how could I afford it? I told them that I bought most of the pieces one - at - a - time.
It's nice to get the things that you WANT but it's better to get the things that you NEED.
Sometimes it's hard to tell the difference because of how our (respective) societies are taught to spend. Feeding off our inadequacies and our compulsive "must have now" mentalities and commercialism that blare out "HURRY! Offer/Sale ends soon!" "Supplies are limited!" "New and improved!" (and who doesn't want to buy it to see just how new and improved it really is??), and so on. Coupons to encourage spending (yes, they save money but they still... encourage spending!).
Money unfortunately does make the world go 'round. It can be a good thing of course. But remember the sage's advice... "the LOVE of money, is the root of all evil".
:yoda: Control, you must learn control!:yoda:

 

[Xue Sheng]

Here's another idea. However the way you do it. Pay off those credit cards and cut the damn things in half and start paying cash for everything. They were a nice idea at the start. But they were originally designed for honest people who could honestly afford paying the interest. But greed settled in the lending institutions when they realized that they could make boo-koos of money by giving the card to anyone regardless of their ability to pay.
Now it's hard to even GET one due to bad credit history thanks to the same institutions who initiated it.

Pay off those cards and either get rid of them or use them for emergency spending only, like unforseen vacation expenses when your car breaks down or has a flat and instead of dipping into the vacation money use the card. Or for medical emergencies or whatever... but for plain ole' shopping? Save up for what you want and then pay for it in cash.

Leave your retirement alone. Income doesn't last forever, neither do jobs/careers, social security is in doubt. Leave your retirement alone. It may be all that you'll have when you're old and grey.

A yup.. Agreed

And here’s a thought maybe just maybe we should try living within our means for a change. Maybe just MAYBE it is not as important as we may think to buy the BMW to show how successful we are. And maybe just maybe we don't NEED to take out a loan for or put a vacation to Aruba on the credit card.

Patients and the ability to NOT be so concerned about impressing the other guy go a long way in stopping this sort of thing.

I have seen people borrow from their retirement account (Govt pension) only a few years before retirement to go on a cruise and end up having to work a few extra years to pay it back. That to me is a bit silly.

 

[Live True]

As a former credit counselor, I've been saddened and amazed at how many people buy things to impress others and are still not satisfied. It is my own personal belief that many of these folks would be less in debt if they had a single or even 2-3 hobbies that they truly got pleasure from. While i'm sure many of us can and will spend lots of money on MA stuff...we truly get physical and emotional satisfaction from it, and we don't buy just to...welll...buy. And there's always building your own things as well.....

There's been some great stuff posted, and I am simply going to note that there were some similar discussions and I put a lot of information on credit, budgeting, etc on this thread here.

Last thing...and this will make some laugh, but works...if you have a credit card just itching to be used...put it in the freezer on the bottom of a container filled with water. To use it, you will have to thaw it to read the numbers. For some of my impulsive clients, it really really worked.

 

[Live True]

I would also add that many banks and credit unions offer debt consolidation loans that are at much lower interest rates than pulling funds from retirement (especially when you include taxation). Many don't even look into this because they are looking a) for a quick fix b) it's thier money anyway, so why not use it.

Not realizing a) "quick fixes" comes at a price and b)long term, anyone?

Short sited and fear induced solutions are rarely the best ones.

 

[MA-Caver]

Last thing...and this will make some laugh, but works...if you have a credit card just itching to be used...put it in the freezer on the bottom of a container filled with water. To use it, you will have to thaw it to read the numbers. For some of my impulsive clients, it really really worked.

Brilliant, provided they actually did it.

One of the things that I tell newly married couples, and it sounds a bit macabre, but it's sensible. They need to go out together and find a cemetery and a long standing mortuary and start making payments on a plot, coffins and headstones.
True, maybe they'll end up divorced in 4, 5, 18 or 27 years later, but if not. If they're truly committed, it's one less thing the survivor (and the survivor's children) have to worry about. That to me is romantic... in an Addams family sort of way. :lol:
When my (natural) mother died my oldest brother had to take care of ALL the funeral arrangements (because my dad was just a wreck with grief) and I mean all. Finding a cemetery, and the whole bit. It was pretty hard on him... and unfair when you think about it. Also to pay for it all my dad lost his "dream ranch" that he gotten for him and his love to settle on. Sad, but true.
Also having "that" all taken care of, eats less out of the remaining retirement and insurance.
Like I said a macabre line of thought but an important one none-the-less. Even if you're single you should think about taking care of it... so your family doesn't have to. Besides, you get what YOU want ... viking funeral (Lo! There I see my father! Lo! There I see my grandfather! Lo! There I see the line of my ancestors!), or whatever! At least it's taken care of.

 

[Kacey]

I have both an emergency fund and a retirement fund. I don't touch the retirement fund. The emergency fund I have tapped occasionally, so it's not as large as I'd like it to be - but it's a lot better than nothing; I could live on it for 2-3 months (I'd like to have at least 6 months).

Too many people I know don't save because they can't afford to save large amounts; well, I started at $25/month about 13 years ago, and every time I get a raise, I up the amount... it's up to $195/month at this point. It auto-drafts, so I don't have to worry about remembering it, spending it accidentally, etc. - I treat it as another bill, and pay it the same way. It works for me. It might not work for other people - but it's accessible in an emergency (24 hour lead time for electronic transfer), and yet it's not at my local bank. I do my best to ignore it completely.

I have friends who were shocked that I was saving money while I was in debt; after all, the interest on the savings was way lower than the interest on the debt... but that's why (and how) I don't have significant credit card debt - because I have the cash set aside to pay the card off if I have emergency car repairs, or vet bills, or whatever. So while it might have cost more in the short run, it's saved me lots in the long run.

 

[SageGhost83]

I don't know if I can say anything that hasn't already been said, everybody has hit the nail right on the head, especially Sukerkin and MA-Caver. I own a credit card, but it was intended just for emergencies. Unfortunately, last year was Murphy's Year for me and I have 4,000 big ones in debt on that thing (stupid car!). I manage it pretty well along with my student loans. I buy groceries in bulk from the wholesale warehouse, I avoid eating out as much as possible, and I don't spring for any pleasure items unless it can't be avoided. The last pleasure item that I have purchased was a pair of chinese slippers for 20 bucks and that was months ago. I put most of my income toward living expenses and getting those debts payed off. Discipline is key because I can't tell you how many times that I have walked past a Peking House restaurant and nearly got pulled into it by the pleasant aroma like in one of those old Looney Tunes cartoons, but I had to remind myself of the debts that I must pay back. I don't owe that much compared to most people, but coming right out of college into a struggling job market and volatile economy, the burden seems amplified. I haven't had to dip into the ole 401k just yet, and I am hoping that my spending and saving habits keep me from having to do so, but only heaven knows what tommorrow will bring.