A 401(k) plan is hands-down the easiest way to save money for retirement. Money comes out of your check pre-tax, and most employers will match a percentage of contributions. Funds can then be withdrawn at age 59 ½ and used as retirement income. However, during hard financial times, many people withdraw funds early by either cashing out or borrowing money from their 401(k). While this may be a quick way to solve current financial problems, doing so can cost you in a big way.
The consequences of early withdrawal from a 401(k)
- Taxes will be withheld. Since funds are contributed tax free, the IRS requires automatic withholding of 20% of an early withdrawal. Depending on how much is withdrawn, this could be a substantial decrease in the money available to you.
- The IRS will penalize you. If you withdraw money from your 401(k) before you’re 59½, the IRS assesses a 10% penalty when you file your tax return. Between the taxes and penalty, your immediate take-home could be greatly reduced while making a significant dent in the money you have saved.
- It reduces your future income. Reducing the money in your 401(k) means that there is less money to grow in the market. That may be especially true if the market is down when you make the early withdrawal. This also means you have less money to use as retirement income when you are done working. The impact of the withdrawal may mean working longer and not meeting retirement goals.
The consequences of taking a 401(k) loan
With a 401(k) loan, you borrow money from your retirement savings account. Depending on what your employer’s plan allows, you could take out as much as 50% of your savings, up to a maximum of $50,000, within a 12-month period. You will have to pay that borrowed money back, plus interest, within 5 years of taking your loan. Your plan’s rules will also set a maximum number of loans you may have outstanding from your plan. You may also need consent from your spouse/domestic partner to take a loan. If you leave your current job, you have to repay your loan in full in a very short time frame. But if you default on the loan, you’ll owe both taxes and the 10% penalty if you’re under 59½.
It will cost you!
Withdrawing money from your 401(k) means you’ll lose out on investing in a tax-advantaged account. You will miss out on potential growth and savings that you will need to live the life you want in retirement. Before deciding to touch the money, you have saved early, know the rules, consequences, and alternatives before you withdraw.
If you have questions about your 401(k), Blue Waters Financial Group can help you decide what is best for you and keep you on track for your financial future. To schedule your no-obligation meeting and discuss your retirement income plan, just click on the link below or call us today at 704-790-2583 (BLUE).
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