This is another guest post from Joe Plemon from Plemon Financial Coaching. Joe is the Money Columnist for The Southern Illinoisan.
Q: I am so worried about my 401(k) retirement account. I am planning to retire in three years and the value continues to drop. Should I cash out my 401k now in order to avoid further losses?
A: There are two reasons why selling right now is not in your best interest.
Taxes = Ouch!
First, if you are under 59 ½ years old, you are going to owe penalties and also pay Uncle Sam a lot of taxes. You would take a bigger hit from cashing out than any further drop in the stock market would affect your portfolio.
Joe is right, cashing out your 401k prematurely will incur a 10% penalty plus ordinary income tax. For the average working couple, that stands to be a 25% hit. Ouch! Here’s more info on 401k hardship withdrawal rules.
Longer The Better
Secondly, you need to think long term, even if you are close to retirement. If you are healthy, you will probably live for 25 or 30 more years. Selling when the market is down will lock in your losses and therefore limit the size of the nest egg you will need to carry you through the next three decades.
Yes, we are in an economic funk, but our economy has a history of remarkable resiliency. Since 1948 we have gone through ten recessions and rebounded from them all. Is history always an accurate predictor of the future? Of course not, but since none of us has a crystal ball, what else do we have? These ten recessions averaged ten months in length and a 39% one-year return from the recession low. I am not saying that your 401(k) will grow 39% in the next year, but, based on history, I believe it will be worth much more in five years or ten years than it is now.
Uglier On Paper
Remember: your investments may look bad on paper, but you haven’t actually lost any money in your 401k until you sell. We are on a roller coaster ride, but the only people who get hurt on a roller coaster are those who jump off.
Be patient and wait. Think long term. Ten years from now you will look like a genius by keeping your money in your 401k.
photo by Thomas Hawk