cashing out a 401K how bad is it?

[binny]

Dh might be leaving his job soon and want to know if we can just cash this 401K out. I know there is a penalty but how bad is it?

With the change of jobs the extra money is needed. Would it be considered a hardship?


Thanks

 

[Bob Slydell]

It's a huge hit and I wouldn't recommend it unless you really, really need the money. Aside from the early withdrawal penalties, which are stiff, there's also the fact that the cashed out amount is added to your taxable income and since you won't have withholding on that income, it will mean another huge hit to you at tax time.

 

[mickeyfan2]

Do whatever you can to not cash it out. Beyond the tax implications of this there is also the future cost of this decision to your retirement years.

 

[Tigger By The Tail]

I believe the early withdrawal penalty is 10% of the total amount. Then you also have to pay any additional federal and state income taxes

 

[mickeyboat]

I agree with everyone else. I think if you cash it out, there is an immediate 20% withholding and 10% penalty. Then since you have to claim it on your income tax, you may have to pay more taxes on it.

If it is allowable under your plan, you may be able to take a loan against it. Generally you can borrow up to 50% of th evested balance. That may be a better solution for you - however, the balance might be payable in full when your DH leaves his job.

Good luck.

Denae

 

[Hercules10]

I'd also say "Don't touch unless absolutely neccessary".

But it also depends on how much we're talking about. If he's only been contributing $5 for a couple months then you've only got the early withdrawl to worry about, which could be a measly amount.

Don't forget. If he's moving to a new company he may be able to roll the 401K to the new company.

 

[LuvDuke]

It's a huge hit and I wouldn't recommend it unless you really, really need the money. Aside from the early withdrawal penalties, which are stiff, there's also the fact that the cashed out amount is added to your taxable income and since you won't have withholding on that income, it will mean another huge hit to you at tax time.

Isn't it also true there are exceptions, or reductions, to the penalty if you use the money to pay certain bills such as medical and educational?

 

[tiff211]

We just dealt with that issue. Since our move, things got crazy financially, we knew DH's teachers state retirement fund was available since he left the state and debated withdrawing it. What we did what the advice of an financial advisor is transferred it to another account (AIG) and then took out a loan for 50%. We have 5 years to pay it off and the interest is 3% and no penalties or fees expect for the $60 loan app and $19 fee to expedite the process.

 

[tiff211]

With ours, hardship or withdrawl reasons were:

If you are about to lose your house
Medical bills
If you are 1 month behind in daycare
If you have recieved utility shut-off notices
car repairs
Behind in tuition

It seems like in those cases, you would have to supply paperwork and they would send you the exact amount.

 

[Bob Slydell]

Isn't it also true there are exceptions, or reductions, to the penalty if you use the money to pay certain bills such as medical and educational?

Each plan is different, but yes, there are some hardship situations which allow you to take a loan out to use for certain bills. I think home-related and education-related bills are usually on those lists. But, IIRC, it's considering a "loan" (to yourself) and not a complete withdrawal and you're expected to pay the 401K back in a certain amount of time (with interest). And if you leave your company, the complete amount is due at that time.

 

[Bob Slydell]

Here's a link I found:

http://www.guideto401khardships.com/

 

[Christine]

"Hardship" clauses only pertain to pulling the money out for a loan (no penalty). Hardship does not apply to cashing out.

 

[Bob Slydell]

"Hardship" clauses only pertain to pulling the money out for a loan (no penalty). Hardship does not apply to cashing out.

Actually, there are both. Hardship withdrawals, however, are taxable, whereas hardship loans (assuming they're paid back) are not.

 

[Christine]

Actually, there are both. Hardship withdrawals, however, are taxable, whereas hardship loans (assuming they're paid back) are not.

Yeah, thanks, I think that's what I was trying to say. Bottom line: there is no "free ride" on a cash out.

 

[rkrivas]

Actually, there are both. Hardship withdrawals, however, are taxable, whereas hardship loans (assuming they're paid back) are not.

The OP noted that her husband may be leaving his job. Many plans do not permit hardship withdrawals or loans to employees once they leave; these withdrawals and loans are typically only available to 'active' employees.

 

[Chicago526]

You pay income taxes on that money plus a 10% penalty. So, if you make $50,000 a year and your 401k balance is $40,000, for 2006 you'll be taxed based on income of $90,000, PLUS the 10% penalty on the $40,000 from the 401k. And more important than that, you put your retirement at risk. Compond earnings on investments is what make retirement possible for most people, you do not want to lose that unless there is truely no other choice.

I'd advise you cut your budget to the bare bones and see how far that will get you. Cut out everything that isn't esential. No cable, no personal cell phones, no eating out, no extra treats when you go grocery shoping (pop, cookies, candy, chips ect. It's all junk anyway, think of it as a family diet! ) conserve on energy/water to get utilites down, shop for new insurance (house, car, etc.) with higher deductables. If you want help with slashing any part of your budget, especially groceries and household items, go to the Budget Board on these forums. Very nice, helpful people there full of budgeting advice, including people who know more about the penalties of cashing out a 401k, if you want more info on that.

Good luck!

 

[brerrabbit]

If he is leaving his job that has the 401k plan then my advice would be to put all of the money into a self directed IRA with an investment company. Schwab or Fidelity has these type of accounts. From there you can direct how your money is invested. When you transfer from the employer account to your self directed account you can get cash or have the actual securities sent. There is no penalty and your money is no longer in the companies plan. Very benificial in the case of an Enron or other such company. You can sell any securities any time you want. Also if you absolutley have to have som money from the account you can take a portion and not all. All the things previous posters have said still apply in that you will have to pay a 10% penalty plus they will treat you proceeds as income and tax it with the rest of your earnings. If you really need the money then you can take it out at the beginning of the year and then have additional withholding taken during the year so the impact is lessened come tax time. I agree with the other posters who say try not to do it but if you feel there is no other choice then by doing these things you can lessen the impact.

 

[disneyjunkie]

Why are some plans able to opt out of the hardship option?

I called this morning to find out how much it would cost to cash out when I leave my present job.(Late next year) I was told it would be 30%. Since our plan doesn't allow hardship withdrawls, I may be stuck paying the 30%.

 

[DISUNC]

The Tax situation is really bad!

However you have to do what you have to do! I know of many unemployed people had no choice but to cash in their 401k!

If you do take it out keeps some $ aside for the tax hit!

Good Luck!

 

[wnissen]

In general there is no way of getting around the 401(k) penalties unless you have a hardship as others have previously noted. However, as Chicago526 said, the issue is that you'll be losing out on the growth that's supposed to be happening. Let's say you want to have enough money when you retire to provide 100% of your current income. Very (very) roughly, assuming solid market-tracking growth in line with historical averages, you will need to save 10% of your income each year for 40 years. Again, this assumes you invest in mutual funds, which may or may not continue to perform the way they have over the last fifty years, so the real number might be a savings rate of 15%. Still, it's an amount many people can do, especially if they have direct deposit so the money isn't just sitting in your checking account.
However, let's say at the end of your first ten years of work, you've saved a year's salary (10% * 10 years), and decide to cash it out. Guess what percentage of your income you'll have to save if you only have 30 years left. A reasonable guess would be 1/3rd more, or 13%. However, it's actually 20%. Put simply, you need to save twice as much per year if you start saving at 32 instead of 22. Imagine half your retirement income flying out the window... Compound interest is a great and powerful phenomenon.

Walt