There are many mistakes to avoid in retirement planning. One of the most prominent is taking money out of your retirement fund. It is high on the “No-No” list together with not saving early for your retirement. There is just too much at stake if you decide to take money from your retirement plan – whether you intend to return it or not.
According to an infographic published on Principal.com, 27% of retirees are actually working while in retirement because they lack the funds to support themselves. The same statistic also revealed how 61% of those who retired early did so because of health problems. Imagine having to retire on a small retirement fund with health problems. How can you hope to support your basic needs much less the medical treatments that your health requires?
This is the reason why financial experts are strongly against consumers who plan to get from their retirement money.
3 conditions that make borrowing from a retirement plan okay
However, there are instances wherein your back is against the wall and you have no choice but to take money from your retirement fund. But before you really consider this as a solution, you must explore your options first. More than that, you need to make sure that these three conditions are met.
You have the stable income to pay it back
First of all, you want to make sure that you have the income to pay back what you are getting from your retirement fund. Whether you loaned or withdrew the money, that should be put back someday. There should be no question about that. If you know that you cannot afford to put this back, then do not borrow from your retirement plan. That way, you will not be too much at a loss when you finally retire.
To have stable income means you should be currently employed with a regular salary coming in every month. Consider how stable your job is. Did you get a positive review the last time you spoke to your boss? And do not just concentrate on your own reviews. Take a look at the stability of the company. You may be very competent but the company may not be in good condition. You could still end up losing your means to pay back your the retirement money you borrowed.
And having the means to pay it back is not enough. Make sure that your repayment plan can be completed in 5 years. This is the allowable number of years that will keep you from being penalized by the IRS. If you loaned the amount from your retirement fund and you failed to pay it back, that will be considered as a taxable income.
You do not have a cheaper loan alternative
Another condition that you have to meet is making sure that you have explored your options. If you need money, try to explore getting a peer to peer loan or a cash advance from your office. If other loans that you are trying to get is going to cost you more than borrowing from your retirement savings, then that usually means you have a credit score that is less than ideal. If this is the cheaper alternative, then go ahead and borrow from your retirement.
This is another reminder that bad credit scores negatively impact your life. In this case, it is forcing you to have no other option but to get funds from the money that should have been kept untouched until your retirement. Make sure that it will be a lesson that you will keep in mind. Fix your credit score problem so that you will not be put in the same position again. Your retirement plan may not fully recover if you make it a habit to borrow from it repeatedly. If anything, this should always be your last resort. Unless this is the cheapest loan alternative that you have, do not touch your retirement fund.
You will use it for something that will improve your personal net worth
Lastly, the only acceptable time that you can touch your retirement money is when you plan to use it to grow your personal wealth. According to a study from Wells Fargo and Gallup, 64% of investors would prefer to have their retirement investments secure even if it will limit the profit that they will earn. The study published on WellsFargo.com also revealed that 33% admitted that they do not mind the high risk as long as there is a high growth potential. If you are part of the latter, then you can use your retirement money to grow your funds further. That is the only time you are allowed to use it. No ifs and buts about it.
This can also be applicable for those who want to use this as a down payment of their home. A house can build up equity over time. This is a great way for you to increase your personal net worth. It sure beats having to rent all the time. Of course, this is a great option if you are still young and you have decades to go before you have to actually retire. In fact, the IRS allows $10,000 or less in withdrawals and will not penalize you for it. At least, if this is your first home purchase.
When these three conditions are met, that is the only time that borrowing from your retirement fund makes sense. If not, keep your hands off.
Should you ever use your retirement money to pay off debt?
There is a question of using your retirement money to pay for your debts. Some people who had it really bad when the recession happened had no choice but to use their retirement money to haul themselves out of debt. According to a Q&A article published on Oprah.com, financial adviser, Suze Orman warned consumers against borrowing from their retirement funds. She said that the better option is to keep their hands off the retirement money, get a part-time job and them pay off the debt slowly but surely.
It is difficult to judge if you should use your retirement plan to pay off your debt. But in case you feel strongly about it, there are certain signs that will tell you if you are doing the right thing. It is still generally not okay but it will probably be acceptable if:
You will pay off a high-interest debt. Compare the interest that your money will get if it stays in your retirement fund as opposed to the savings you will get if you eliminate the high-interest debt. That can be a great way for you to compare if this is a good idea or not.
You will loan the money and not withdraw from it. Withdrawing would mean an early withdrawal tax penalty for you. If you loan it, it is technically still a debt but the interest will be placed in your retirement fund anyway.
You will make a plan to return the money. Actually, this should be something that you do before borrowing from your retirement money. Make sure that you can put it back.
You will address the real reason why you got yourself in debt. Lastly, you want to address the root cause of your financial problem. If you concentrate too much on paying off the debt without really thinking about staying out of it, then you might just be wasting your time and money. Ensure that you will solve the overspending or lack of emergency fund problem that led to your debt situation.
There are many retirement regrets that you should avoid at all cost and taking from your retirement savings is one of them. If you are not careful, you might find yourself struggling in the future just because you took money out of your retirement fund.