What do you think my answer is to the above question? Does the screenshot below give you an indication? It better!
I cringe anytime someone asks me this question. Don't do it. If you need a couple of other options, watch the video or read below.
Whatever you do, don't use your 401k money to pay off your credit cards.
2 Easy Alternatives
Get a personal loan from your local bank.
You might be asking yourself why you are taking on more debt to pay off old debt. Don't. Think of it as consolidating and reducing the interest rate on your loan. I recently had a reader that followed my advice and shaved her interest rate by 10%. If you haven't hurt your credit you can use a balance transfer card and some of the cards will give you airline points for any future purchases.
P2P lending is becoming a mainstay in the financial services industry. The leading peer to peer lender is Lending Club having issued over $1 billion of loans.
Another reader who was currently paying over 25% on her credit cards emailed me asking about cashing in her 401k to pay off her credit cards. (She's the one that inspired me to film the video). I suggested she check out Lending Club which she did immediately.
A few days later I received this email:
Boom! That's how you save money and not jeopardize your financial future.
(You can also consider Prosper, another P2P lender.)
If you've considered using your 401k to pay off some credit card, explore these alternatives first.
AWB says
Balance transfers to lower-rate cards also help reduce the amount of credit card payment contributed to interest. This increases the amount used to draw down the principal balance for a faster and cheaper pay off.
Also, many financial institutions offer credit card deferment authorizations; sometimes these can be up to 90 days. Although the card still accumulates interest, this is a way to create time for seeking an alternative form of financing a balance payoff without lowering credit score.
Collateralized loans using financial instruments such as Certificates of Deposit are another option to a 401(k) loan. This protects the balance of the retirement plan and keeps it on track for its intended purpose of saving and building wealth for retirement.
Manette @ Barbara Friedberg Personal Finance says
I definitely agree with you. I would never recommend borrowing from your 401K to pay off your debts and loans. There are other better alternatives. Though I did not go the route you are suggesting when I was trying to pay off our credit card debts, I think they are good options. Thank you for the information.
Tai & Tarin says
Great advice Jeff. Paying 35 – 40% in penalties (10% excise tax + money gets taxed at your current tax bracket) in order to pay off your debt that is currently at a 25% interest is just bad math.
Rob @FinancialSprout says
I heard of a family that just used their credit cards to buy everything while they were in a financial hot spot, which wasn’t smart. Turns out he is a financial adviser…. I guess common sense doesn’t always seem all that common even to business professionals.
Kurt @ Money Counselor says
Another good option for paying off credit card debt: Sign up for a Debt Management Plan through a nonprofit credit counseling agency.
My Financial Independence Journey says
Occasionally common sense prevails.