Withdrawal from 401K to Pay off CC's

Withdrawal from 401K to Pay off CC's
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#1

Hello all,

I’m 27 years old, about 4 years into my career in investment services, making $75,000 a year and have about $30,000 in my 401K account (currently contributing 9% and receive 3% company match, and >5% ROR yearly). Between the ages of 19-24, I racked up about $13,000 in credit card debt across 4 accounts, all at 23-27% APR (yikes!). Minimum payments on these cards amount to ~$600/month. After leaning my expenses out (cutting out expensive gyms, cable, etc.), I am looking to rid myself of the credit card debt to better my financial situation even further. My necessary payments for all bills amount to ~$2,000 a month, and my take home pay is $3,400 a month. My thought process is that I could potentially lower my total bills to ~$1,400 a month by withdrawing from my 401K now and replenishing it with a short period of time + upping my contribution rate to about 12% or so immediately. I can use that extra income for other investments while raising my credit score (taking a huge hit currently due to credit usage).

Side note: I own a small home and partially support an elderly parent with the help of other siblings. However, if it were to come down to it, I would not be financially responsible for this person. But I do help now as a courtesy.
Not being rude to this parent, I met this person when I was 18.

I’m looking for advice, based on the above situation, as to whether withdrawing from my 401K now with plans to replenish the money somewhat soon and raise my contribution amount immediately is a good idea. At 23-27% APR, I’m thinking yes but wanted to gather some input from more experienced persons.


#2

Hi mgonz43,

It’s great that you’re taking charge of your debt! Generally speaking, using retirement funds to pay off debt is a bad idea. If you lose your job and can’t pay the money back in time, your balance turns into a withdrawal, and you will have to pay taxes and penalties. You are also limiting your ability to earn future tax-deferred returns, even if you up your contribution immediately.

What is your credit score? You said it’s taken a hit, but depending on what it is, you have options to pay off debt other than the 401k loan.

Instead, you may be able to get a balance transfer card or personal loan to consolidate debts, or even use a strategy like the debt snowball method or debt avalanche to do it yourself.

Here is a resource for you to check out. Let us know if you have more questions!

Let us know what you decide!


#3

Thanks for taking the time to respond! My credit score is in upper 500’s. No late payments or anything like that, just solely credit usage. I’ve definitely considered debt consolidation but when applying, those rates still put at about 24% APR. The snowball method is probably my best bet right now.


#4

An additional option esp with the score… is actually take out a loan on your 401k… But don’t tread into this lightly… Withdrawing from a 401k is almost ALWAYS a bad idea… but taking a loan on it can be effective if you have a budget in place and the interest on it is usually very low since its YOUR money… and you arent taking the tax penalty for early withdrawal…


#5

Hey, Flyguy. A 401(k) loan would help with both interest and your credit situation, but the big risk is losing your job. The vast majority of the time, the balance turns into a withdrawal and that’s very bad:

You might also consider a credit counselor’s debt management plan that could lower your interest and potentially get you out of debt faster.

I’m concerned about your score, though, since credit usage alone typically won’t drive it down that far. Have you checked your credit report to make sure everything is correct?


#6

I am in a similar situation. I’ve been at my job for over 16 years and have been using my 401K to pay off my debt. However, it seems to be a neverending cycle for me. I pay off my credit card, then i pay off my loan to 401K. then i start all over again.
I don’t know how to stop the cycle. BTW, my credit score is like 780


#7

Hi godsbeings, thanks for writing in!

Hope some of the advice in this thread makes it clear how risky it is to use your 401(k) for debt. It’s great that you have such a high score: you should put that to use and get either a 0% balance transfer credit card or low-rate personal loan to pay off your debt. It’s much safer than risking your retirement. Lenders typically look at your credit score (which is great) and the ratio of your debts to your income to check if you qualify for a card or loan.

Here are some resources below to help you get started! If your debt is too high compared to your income (more than 40%) I’d recommend other options, such as credit counseling.

3 Steps to Pay Off Your Debt

Calculate Your Debt-to-Income Ratio

Good luck! Let us know if you have more questions.
Amrita


#8

That great score shows that you know how to be disciplined and responsible when it comes to paying your debts on time. So you have the skills to get the debt paid off, and keep it paid off!

Your 401(k) is a relatively cheap source of funds, but ideally that money would be left alone so it could earn returns for you.

When people keep running up credit card balances, it may be because their must-have expenses are out of line with their income. We have information on the site about the 50/30/20 budget, which has helped a lot of people free up room in their budgets for the fun stuff as well as savings and debt repayment.

We also have some great, inspiring stories in our “How I Ditched Debt” series that describe how people tackled their debt. You might find some good ideas and motivation there.

What you want to do is totally doable, and we’d love to help you succeed! Please let us know if you have any follow-up questions.