Is It Dumb to Take a Loan From My 403(b) Retirement Account to Pay Off Debt? – Maura

“Dear Steve,

I have $20,000 in credit card debt that I can’t seem to pay down. I have cut up my credit cards and are no longer using them. My interest rates are 8-12%. I am considering taking a loan on my 403B at 4.25% that I pay back to myself. One of the downs falls is if I’m layed off, then I have to pay loan in full or it’s considered default and taxed. I do have a stable job and don’t expect to be layed off (but don’t we all). My loan would be for 4 years. And I can borrow the 20,000. I have over $60,000 in my retirement account and I am in my 30’s.
Your Question Is it dumb to take a loan from my 403B to pay of credit cards? the loan is set up so I pay myself back the interest.

Maura”

Dear Maura,

Is it dumb? I don’t know if it is dumb, but it is sure ill advised.

You are sacrificing long term returns for an immediate problem right now. While you think you might be making money on the deal by paying yourself interest, you will in fact lose many times more than that by not leaving the funds alone and letting them grow as the market returns, which it is. As an example, my mutual funds have grown between 26% to 63% this year. You’ll take your money out and get what, 4.25%.

Let me show you the problem. OK, let’s say that each share of your mutual fund is worth $10 and you cash out 2,000 shares. and it takes you five years to pay back the loan. During that time you pay yourself 4.25% interest. You’ll pay roughly about $3,000 in interest. But as you are putting the money back in the price per share is rising.

So let’s say that by the time you get all of the loan repaid your average cost per share is $17. You will only have 1,352 shares as opposed to the 2,000 that you started with. At the $17 price your shares would now be worth $34,000 and you will only have $23,000. That loan didn’t cost you a tiny little 4.25%. It actually cost you about 30%.

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I’m not going to take the time to amortize this out, you get the point. The killer here is not the interest, it is the lost value by tapping the money to begin with. And oh yes, people get stung with the separation of employment loan repayment all the time.

May I suggest that you investigate something like LendingClub.com as a place to borrow the money to consolidate your debt and leave your retirement funds alone.

Please update me on your progress by

You are not alone. I'm here to help. There is no need to suffer in silence. We can get through this. Tomorrow can be better than today. Don't give up.

P.S. Be sure to read ‘The Secret of Surviving Through Difficult Economic Times. What I Learned On My Journey‘.

Damon Day - Pro Debt Coach

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