tap IRA to pay off CC debt?

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albireo13
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tap IRA to pay off CC debt?

Post by albireo13 »

Hi,
I just turned 59-1/2 yo. I have 401Ks and a personal IRA. My issue is that we (wife and I) have considerable debt ... mortgage, college loan, and credit card debt. Luckily, we have decent equity in our house so we are not underwater. The most annoying is our CC debt, which is about $10K right now. It had ballooned about 18 years ago when we went through a rough stretch. We've been whittling it down slowly but, I can't wait to zero it out and start putting those payments towards other debt or even investing. My CC rate is about 9% right now.

Anyway, I am now old enough to take out IRA disbursements without the 10% penalty. I am thinking of just taking out IRA money and pay off the CC debt now and be done with it. We are disciplined enough to keep it from growing back up again.

I know that using IRA funds is a no-no but, emotionally it would be huge to pay the CC off. That plus, it's not a huge chunk out of my IRA ($200K right now). The other thought is to take out an IRA-based loan to pay off CC debt. That way I pay myself back the interest.

Am I crazy? Any thoughts?

Thanks,
Rob
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cheese_breath
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Re: tap IRA to pay off CC debt?

Post by cheese_breath »

Before tapping your IRA I suggest doing a comprehensive review of your spending and look for ways to reduce unnecessary expenses. Forgo a vacation trip? Reduce entertainment expenses? Eat less expensive meals? ???
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Twins Fan
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Re: tap IRA to pay off CC debt?

Post by Twins Fan »

You probably should have been paying down debt, or at least the CC rather than investing over the last 18 years. Water under the bridge now.

I agree with the above,.... look for ways to cut spending and attack the CC debt. Don't contribute more than the match, if any, in the 401k. And, throw all extra at the 9% debt.

Are you and the wife still working or retired?
Two Headed Mule
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Re: tap IRA to pay off CC debt?

Post by Two Headed Mule »

Assuming you are still working, and without a fuller picture of your finances, withdrawing from your IRA to pay the debt is not crazy at all, and in fact is probably the proper thing to do. Redirect the payments you were making on the CC -- as well savings from belt-tightening -- either to retirement accounts or other debt, depending upon interest rates, tax rate, and so on.

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SimonJester
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Re: tap IRA to pay off CC debt?

Post by SimonJester »

Agree with what other said, you need to make sure if you pay down this debt you do not end right back where you started in 18 months.

Also keep in mind when you take the 10K out you will pay taxes on that, it might also bump you into another tax bracket if you are still working.
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2comma
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Re: tap IRA to pay off CC debt?

Post by 2comma »

SimonJester wrote:...
Also keep in mind when you take the 10K out you will pay taxes on that, it might also bump you into another tax bracket if you are still working.
That was my thought. I would think, as Twins Fan mentioned, if you can't scrimp your way out of it cutting your contributions, for a short time, would be the least painful way to go considering taxes and opportunity costs.
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Watty
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Re: tap IRA to pay off CC debt?

Post by Watty »

The other thought is to take out an IRA-based loan to pay off CC debt. That way I pay myself back the interest.

Am I crazy? Any thoughts?
You probably meant a 401K loan since you can't have IRA loan, but with those you have to check your companies loan terms since many companies will not allow you to make contributions while you have a 401K loan. Not being able to make contributions could cause you to not get an employers match.

Be sure to check to see if the IRA withdraw will push you into a higher tax bracket. If so then that might make it too expensive.

One concern would be that if you eventually have to declare bankruptcy then it would be better to not pay off the credit card with the IRA money. From your post it doesn't sound like this is likly but it is worth considering.

I would also suspect that you are not maxing out all the 401K and IRA contributions that you could make. If so if you do take the money out of the IRA then it would be good to put the money that you would have used to pay the credit card each month into a deductible retirement account, like the 401k.

As long as this is a "one time" event then it sounds reasonable to me since that would save you almost a thousand dollars a year.
nordlead
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Re: tap IRA to pay off CC debt?

Post by nordlead »

Citi has a 0% for 21 month with a 3% balance transfer fee card right now (citi simplicity). Personally, I'd just do that and go after it aggressively with regular income. And if you still don't have it paid off by then, then tap the IRA as the amount should be much lower.
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DiscoBunny1979
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Re: tap IRA to pay off CC debt?

Post by DiscoBunny1979 »

I've found the Chase Slate Card and the American Express Everyday Card to be good choices for 0% for a year + (although they have 2% or 3% transfer fees depending upon the offer).
U5512
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Re: tap IRA to pay off CC debt?

Post by U5512 »

albireo13 wrote:The most annoying is our CC debt, which is about $10K right now. It had ballooned about 18 years ago when we went through a rough stretch. We've been whittling it down slowly but, I can't wait to zero it out and start putting those payments towards other debt or even investing. My CC rate is about 9% right now.
No, you're not crazy.

DO IT and get it over with!!! It is only $10K and you're not paying 10% penalty for withdrawing from IRA so DO IT!!! Life is too short NOT TO DO IT!!! :happy

Your IRA isn't going to provide you with a 9% return this year unless you invested with Bernie Madoff. :mrgreen:
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Topic Author
albireo13
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Re: tap IRA to pay off CC debt?

Post by albireo13 »

I think I might just do it. First I'll go nuts for a month or so to knock it down to $8K or less.
I just want to get out from under the stupid thing. It's a self-fulfilling prophecy. I can't salt away cash to cover
life events because I'm paying down my CC. So ... when something pops up (auto repairs, etc) I have to put it on my CC.
If I pay it off right now from my IRA, I can salt away $$ for expenses and maybe sleep better at night.

It may not be optimal but we're talking about < $10K so, the difference between this and optimal isn't all that much, IMO.
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cheese_breath
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Re: tap IRA to pay off CC debt?

Post by cheese_breath »

albireo13 wrote: It may not be optimal but we're talking about < $10K so, the difference between this and optimal isn't all that much, IMO.
So why did you ask then?

Just don't run up the cc again and make this a precedent.
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Two Headed Mule
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Re: tap IRA to pay off CC debt?

Post by Two Headed Mule »

There are two discrete issues:

(1) Going forward, you should be living within your means and cutting back where possible.

(2) What should be done with your credit card debt right now? The important point is that the debt will eventually have to be repaid with taxed funds. If you do not withdraw from your IRA now, you will have eventually have to forgo 401(k) contributions of an equivalent amount in the future. So, ultimately, there will be no net loss of tax-advantaged space. The problem is that the equivalency of these options is obscured by language: one course of action sounds bad -- "raiding" your IRA sounds like an irresponsible act of commission -- while the other sounds responsible (passively not contributing to your 401(k), but the cumulative effect on your tax-advantaged space will be similar.

That being the case, there is no reason to wait to withdraw the money from your IRA to pay down the debt. Redirect savings from debt service and from belt-tightening to your retirement accounts.

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pezblanco
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Re: tap IRA to pay off CC debt?

Post by pezblanco »

I don't know a lot about this but it is my understanding that there are credit cards that will give you zero percent for a year with NO transfer fees. Why not do that and just whittle away it? Your desire to get rid of this debt sounds more like an emotional need that you have than a logically good decision.

I would never give up tax-advantaged space in order to wipe out something like CC debt.
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albireo13
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Re: tap IRA to pay off CC debt?

Post by albireo13 »

Just applied for the Chase Slate CC, which has 0% for balance transfers for 15 months. I'll do the transfer and hack away at it for a few more months at least to see where I'm at and then decide on the 401K idea. Our spending and saving is much more frugal now so I'm not worried about racking up the CC debt again.
In fact, I've taken my CC (Visa) out of my wallet and filed it so, I don't get tempted to use it.
Two Headed Mule
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Re: tap IRA to pay off CC debt?

Post by Two Headed Mule »

albireo13 wrote:Just applied for the Chase Slate CC, which has 0% for balance transfers for 15 months. I'll do the transfer and hack away at it for a few more months at least to see where I'm at and then decide on the 401K idea. Our spending and saving is much more frugal now so I'm not worried about racking up the CC debt again.
In fact, I've taken my CC (Visa) out of my wallet and filed it so, I don't get tempted to use it.
Transferring the balance to a 0% card for a year is a perfectly sensible thing to do, but the benefits are really quite marginal compared to just paying it off now. The balance will still need to be paid by the end of the 0% period to avoid usurious rates. So you are basically arbitraging a 0% borrowing rate to earn, what, 1% risk free in your IRA for a year. I would just pay off the debt to avoid the hassle of the transfer, as well as simplifying my life/balance sheet, but YMMV.

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Caduceus
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Re: tap IRA to pay off CC debt?

Post by Caduceus »

This sounds like it's just a cash flow issue, assuming you can pay off the debt with regular income, but just need a little more time. You could transfer the balance to a 0% card, and make sure you actually pay it down after it has been transferred.
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Toons
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Re: tap IRA to pay off CC debt?

Post by Toons »

Forget tapping the IRA,just reduce your spending save more and pay it off,, :happy
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Re: tap IRA to pay off CC debt?

Post by Christine_NM »

IRAs are for retirement, not for credit card debt. When the next expense comes, will you use the IRA just because there is no penalty to withdraw except extra taxes? Bad precedent. Bite the bullet and learn how much $10k really is -- pay off out of current cash and scrimping.

Sorry, but you need a bigger emergency fund (cash) and a lower credit card limit. :(
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Kevin M
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Re: tap IRA to pay off CC debt?

Post by Kevin M »

According to our Boglehead Wiki, paying off high-rate debt is the second priority after contributing enough to 401k/403b to get the maximum match: Prioritizing investments - Bogleheads, and I agree with this. So, how is taking a penalty-free distribution from an IRA to pay down high-rate debt different than paying down the debt in lieu of making a contribution in the first place? In other words, instead of making any IRA contributions or 401k/403b contributions to maximize the match, you should have been paying down the high-rate debt, so taking a penalty-free IRA distribution to pay down the debt now is just correcting that mistake.

For comparison purposes, you should be using a risk-free, after-tax nominal rate, since paying down the debt gives you a risk-free, after-tax, nominal return of 9% (no tax deduction on CC debt, so this is an after-tax return). About the best you can do for a risk-free nominal asset with a reasonable maturity is a 5-year CD earning 2.25%, which is tax-free in a Roth IRA, and tax-free for your portion of a traditional IRA (after subtracting out "the government's share", based on your tax rate on withdrawal); you can hold such a CD in an IRA (but not in a 401k/403b), so it's a reasonable rate to use to compare.

So for every year you carry $10K debt at 9%, you are losing $900 - $225 = $675 by holding the debt instead of paying it off.

If you pay 2% for a balance transfer into a 1-year 0% CC, that doesn't do you much good, since you will pay $200 to do the transfer, and earn $225 in the CD. If you pay 3% to do the transfer, you lose. So although this sounds good at first, I don't see that it pays off.

If you're having trouble paying of the CC debt, then you'd probably have trouble paying off a 401k loan, so I would question that choice.

The only other consideration is the potential tax bonus you receive by taking distributions at a lower effective tax rate than that at which you made contributions, assuming this is a traditional IRA. Note though, that the Wiki article doesn't mention this consideration, but I would at least think about it--perhaps model it in a spreadsheet. So if you are in the 25% federal tax bracket now, but expect to be in the 15% bracket in retirement, that's a point in favor of not taking a distribution now. However, I suspect paying down the high-rate debt still makes sense.

You also might consider paying down some of the education debt as well, depending on the rate. Here is another Wiki article of interest: Paying down loans versus investing - Bogleheads. Note that this article places a higher priority on paying down debt in the 5%-8% range before investing in an IRA, and this assumes a Treasury rate of 5%, while current rate on a 5-year Treasury is only about 1.7% (which is why I'd use the 5-year CD instead, but that's still well below the 5% rate). The rate on even a 30-year Treasury is only a little over 3%.

Kevin
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Re: tap IRA to pay off CC debt?

Post by Kevin M »

With respect to an emergency fund, a common recommendation is to use a Roth IRA as an emergency fund, since you can withdraw contributions penalty-free at any time, but can let the money grow for retirement if not needed for emergencies. In your case, since you have no other emergency fund, I would say that your IRA is your emergency fund, especially since you can take penalty-free distributions.

In essence, you've been using your credit card as your emergency fund, which is fine, as long as you can pay it off before paying much high-rate interest. Sure, scrimping and saving to pay the CC debt quickly is a better choice, but you've indicated that you don't think you can do that. So I'd say tap your IRA emergency fund to pay down the high-rate debt, then put the extra $900/year savings back into your IRA and 401k.

I'm assuming that you're not maxing your IRA and 401k contributions, so it's not like you are losing tax-advantaged space that you can't rebuild. If you have been maxing these contributions, then you should stop and redirect that money to paying down the high-rate debt--at least if you agree with the priorities in the Wiki articles I linked to--and you will have it paid off in less than a year.

Kevin
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pezblanco
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Re: tap IRA to pay off CC debt?

Post by pezblanco »

Kevin M wrote:According to our Boglehead Wiki, paying off high-rate debt is the second priority after contributing enough to 401k/403b to get the maximum match: Prioritizing investments - Bogleheads, and I agree with this. So, how is taking a penalty-free distribution from an IRA to pay down high-rate debt different than paying down the debt in lieu of making a contribution in the first place? In other words, instead of making any IRA contributions or 401k/403b contributions to maximize the match, you should have been paying down the high-rate debt, so taking a penalty-free IRA distribution to pay down the debt now is just correcting that mistake.

For comparison purposes, you should be using a risk-free, after-tax nominal rate, since paying down the debt gives you a risk-free, after-tax, nominal return of 9% (no tax deduction on CC debt, so this is an after-tax return). About the best you can do for a risk-free nominal asset with a reasonable maturity is a 5-year CD earning 2.25%, which is tax-free in a Roth IRA, and tax-free for your portion of a traditional IRA (after subtracting out "the government's share", based on your tax rate on withdrawal); you can hold such a CD in an IRA (but not in a 401k/403b), so it's a reasonable rate to use to compare.

So for every year you carry $10K debt at 9%, you are losing $900 - $225 = $675 by holding the debt instead of paying it off.

If you pay 2% for a balance transfer into a 1-year 0% CC, that doesn't do you much good, since you will pay $200 to do the transfer, and earn $225 in the CD. If you pay 3% to do the transfer, you lose. So although this sounds good at first, I don't see that it pays off.

If you're having trouble paying of the CC debt, then you'd probably have trouble paying off a 401k loan, so I would question that choice.

The only other consideration is the potential tax bonus you receive by taking distributions at a lower effective tax rate than that at which you made contributions, assuming this is a traditional IRA. Note though, that the Wiki article doesn't mention this consideration, but I would at least think about it--perhaps model it in a spreadsheet. So if you are in the 25% federal tax bracket now, but expect to be in the 15% bracket in retirement, that's a point in favor of not taking a distribution now. However, I suspect paying down the high-rate debt still makes sense.

You also might consider paying down some of the education debt as well, depending on the rate. Here is another Wiki article of interest: Paying down loans versus investing - Bogleheads. Note that this article places a higher priority on paying down debt in the 5%-8% range before investing in an IRA, and this assumes a Treasury rate of 5%, while current rate on a 5-year Treasury is only about 1.7% (which is why I'd use the 5-year CD instead, but that's still well below the 5% rate). The rate on even a 30-year Treasury is only a little over 3%.

Kevin
Kevin, I think you're flogging a dead horse. The OP has said that he did a zero cost transfer to a zero percent loan for 15 months. Your various CC scenarios are just not valid. I've done a little investigating and talking with a friend (who routinely does this) and the fact of the matter is that you can CONTINUE TO DO THIS ... after 15 months, you can always find another card that will do a zero cost transfer and zero percent loan.

Also you are basically devaluating the debt by whatever the inflation rate is during the term that is required to pay it off. In addition to not raiding your tax deferred space and you have a win/win situation.
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Re: tap IRA to pay off CC debt?

Post by Kevin M »

pezblanco wrote: Kevin, I think you're flogging a dead horse.
Maybe a sleeping horse? OP may be back with the same dilemma when the 0% term is up. Maybe another $0 cost balance transfer deal will be available, maybe not.
pezblanco wrote: The OP has said that he did a zero cost transfer to a zero percent loan for 15 months. Your various CC scenarios are just not valid. I've done a little investigating and talking with a friend (who routinely does this) and the fact of the matter is that you can CONTINUE TO DO THIS ... after 15 months, you can always find another card that will do a zero cost transfer and zero percent loan.
OK, I missed the part about a $0 cost balance transfer, but still, OP or others may find the perspective I shared useful, and I didn't see any other posts framing it the way I did.

So if OP can pay down debt before running out of $0 cost balance transfer deals, and if it's worth the hassle, then that approach could make sense, since OP would be coming out ahead by about $200 per year nominal (at current rates). Since it's already done for now, at least the decision can be deferred for 15 months, or whatever the 0% term is, and maybe OP can pay down some of it before then. And as you say, maybe another such deal will be available then.

However, if you carry this logic forward, then everyone should be borrowing as much as possible on credit cards (or not paying down their monthly credit card spending), transferring the balances to 0% cards at $0 cost, and investing the borrowed funds at a safe 2.25% return, ideally by contributing more to their tax-advantaged accounts.

Although this may not be practical on an ongoing basis, due to limited $0 cost balance transfer deals, and the potential problems of getting a new credit card every month or two, shouldn't we at least do this once per year after we run up a large credit card bill--say for a major purchase or travel. I suspect for most people it's not worth the hassle to earn a couple hundred bucks per year.

Would you recommend that anyone not maxing out their 401k/403b and IRAs do this to increase their contributions and the size of their tax-advantaged space? If you think you can carry debt at 0% forever, then why not?
pezblanco wrote:Also you are basically devaluating the debt by whatever the inflation rate is during the term that is required to pay it off.
The $10K sitting in the IRA also is being devalued by the same inflation rate, so this is a wash.

Kevin
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Caduceus
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Re: tap IRA to pay off CC debt?

Post by Caduceus »

If you think you can carry debt at 0% forever, then why not?


Yes, why not? I would carry unlimited amounts of debt at 0% if I could. It would be an arbitrage profit and totally risk-free. Actually, I would be willing to carry lots of debt at 1% and even 2%.

Also, some posters like Livesoft have used 0% interest deals in the manner described above, so at least some Bogleheads do take advantage of it. I recently tried it and have taken no hit to my credit score.
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albireo13
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Re: tap IRA to pay off CC debt?

Post by albireo13 »

Quick update:
I've found about $2K of available personal funds which I had saved and threw that at my CC. Now it sits at $8K.
While I could gradually pay the CC off, doing so would impact my ability to grow back some cash reserves. Usually one or 2 things a year
surprise me with sizeable bills (house repair, auto repairs, etc).
Without the cash reserves, I find I end up having significant charges back on my CC each year. It's a vicious circle.
If I pay it off from my 401K I feel I can break the pattern and start saving up cash reserves immediately.
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Re: tap IRA to pay off CC debt?

Post by Christine_NM »

albireo13 wrote: If I pay it off from my 401K I feel I can break the pattern and start saving up cash reserves immediately.
I am still not buying this. You have already saved up this 401k money for retirement. Let it sit there and grow. Use current cash/card offers to pay off debt.

Don't borrow from the future to pay for the past. But of course you will do whatever you want -- and that will tend to be what seems easiest in the present.
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Re: tap IRA to pay off CC debt?

Post by cheese_breath »

Christine_NM wrote:
albireo13 wrote: If I pay it off from my 401K I feel I can break the pattern and start saving up cash reserves immediately.
I am still not buying this...
Me neither. Unless you're already living at the poverty level I have a hard time believing you couldn't cut back on living expenses enough to have the whole thing knocked off in less than two years. As Dave Ramsey says, eat beans and Ramen instead of steak. He frequently airs testimonials from people who have eliminated debts much larger than yours in two or less years. It's just a matter of whether you have the willpower to do it or want to take the easy way out.
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Re: tap IRA to pay off CC debt?

Post by WallyBird »

albireo13 wrote: While I could gradually pay the CC off, doing so would impact my ability to grow back some cash reserves. Usually one or 2 things a year surprise me with sizeable bills (house repair, auto repairs, etc).
So you can pay off the loan, but that will mean you'll have to borrow more later. Or did I miss something?
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archbish99
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Re: tap IRA to pay off CC debt?

Post by archbish99 »

It sounds like you have more general issues with personal finance than the question of how, optimally, to pay off the debt. Start by getting on a solid budget plan, setting aside reserves for those things that "usually" surprise you, so you don't need to borrow again. You've got the debt at 0% for over a year now -- use that time to get the rest of your financial house in order, and I bet you'll have a good path to paying it off by the time the term is up.

There was an excellent post this morning on the YNAB blog about how emergencies get less emergency-like when your finances are under control.
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pezblanco
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Re: tap IRA to pay off CC debt?

Post by pezblanco »

@Christine and cheese_breath ....

I see the OP has come to right place for some Bogleheads tough love! :D
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Re: tap IRA to pay off CC debt?

Post by Marmot »

Christine_NM wrote:
albireo13 wrote: If I pay it off from my 401K I feel I can break the pattern and start saving up cash reserves immediately.
I am still not buying this. You have already saved up this 401k money for retirement. Let it sit there and grow. Use current cash/card offers to pay off debt.

Don't borrow from the future to pay for the past. But of course you will do whatever you want -- and that will tend to be what seems easiest in the present.

+ 1.

I can see if someone has a huge amount (maybe 2 million) in their IRA's and has a plan to withdraw certain amounts over the years to reduce a future RMD level....but I assume that is not the case here. I agree with Christine's basic premise - suck it in and buckle down. Most all of us on this board have had to do it sometime in the past....we are bogelheads :happy
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albireo13
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Re: tap IRA to pay off CC debt?

Post by albireo13 »

Man, you guys are tough. :sharebeer
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