Get Out of Debt Guy - Steve Rhode

Should I Use My IRA to Pay Off My Debt? – Donald

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“Dear Steve,

I have had this thought to reduce our debt and to better manage our finances. It is quite complicated (as I am sure most situations are), so I will do my best to present all the information.

My wife and I (we are in our mid 30s) have a credit card with $7k on it and two personal loans (which used to be credit card debt) of $9k (should be paid off in a little over 2 years) and $23k (brand new and won’t be paid off for 6 years). We have never missed or been late with a payment to our creditors, so there is no issue with them.

I have a rollover IRA from a previous employer worth about $30k. I have had it for 5 years and it is not worth any more now than when I started. Our budget is already extremely tight and we are behind $400 each month and quickly running out of money. My wife quit work last summer to stay home with the children (this is extremely important to us) and to raise our newborn who graced us with his presence in October. Furthermore, I have not been able to start on my current employers 401K program either for the same reasons.

So my idea is this: We would cash out the IRA knowing that I would incur a 10% penalty. We are also aware that the cash would be considered income for the year and would be taxed on it. But using the cash, we would pay off the $9k loan and the $7k credit card – this would get us on the plus side monthly by not having to make the payments any more. Then we would use some of the cash to purchase a new roof for our home as it is in desperate need of repair. Whatever is left over would be put into savings, used to start a Roth IRA and to pay any taxes. Then we would attempt to refinance the $23k loan to obtain better terms (i.e. lower interest rate, lower payment, fewer years or a combination of these). Finally, being ahead of the game at this point, I could start to contribute to the company 401K plan and my wife could continue to stay at home with the kids.

I know many say you should never cash out your retirement, but does this plan sound like a good idea?

Should I use my Rollover IRA to pay off a majority of debt?

Donald”

Dear Donald,

I just want to speak honestly and bluntly, that’s a really dumb move. You can see a bunch of previous answers on the same subject. I urge you to read them, click here.

Bottom line, you are struggling, if you tap the IRA you are giving up funds that are protected in bankruptcy. What is your game plan when you give away all of your retirement, can’t save new retirement money and still living month to month? And you will soon enough. Your plan just gets you back to a break even place but you really need that and much more to make a big difference.

I don’t blame you for this horrible decision. It is a typical knee-jerk reaction many people make. They simply fail to see the money in the IRA, 401(k), 403(b), for what it is. That money is the stuff you are going to eat with when you are old and not making money anymore. If you leave it and let it grow it will be worth up to a couple of hundred thousand by the time you need it. If you cash it in it will only be worth $30K minus penalties and taxes.

If you keep draining your savings and retirement like a piggy bank, you better select a favorite brand of dog food because that’s what you’ll be eating when you are old if you keep this up. Harsh, but true.

I hope I didn’t sugar coat that too much.

A better plan of action is to get a grip on where your current cash is going with the new income arrangements. You can do this by creating a spending plan. Follow the instructions beginning on page 81 of my free download book, “Eliminate Your Debt Like a Pro.”

Once you do that let me know how short you really after you’ve tracked the cash for a month.

What was the new $23,000 loan for?

Big Hug!
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