Cashing Out a 401k to Pay Off Debt?

Cashing out 401k accounts is typically not a sound financial strategy. However, if you are faced with large amounts of debt, you might be tempted to cash out your account and pay it off. Here are a few things to consider about cashing out a 401k to pay off debt.

Interest vs. Penalties

You need to consider both interest and penalties when making this decision. When you cash out a 401k, you will have to pay a 10% early distribution penalty. In addition to that, you will also have to pay income tax at your regular marginal tax rate on the money. When you have debt, there is a good chance that you are paying someone else interest on the money. You need to determine if the interest that you are paying will be greater than the penalty that you would have when you cash out your 401k. If you are going to pay thousands of dollars and penalties, and you only are paying a few hundred dollars in interest, it would not make sense to cash out the account.

Making the Decision

If you can avoid it, it would be in your best interest to not cash out your 401k. It will set you back significantly in saving for your retirement.

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