Cashing out a 401k? Here’s What to Consider

Cashing Out 401k

You’ve fallen on hard times and you need financial assistance. You’ve got $100 grand sacked away in an IRA account. Should you withdraw the money, even though you’re not close to retirement age? If so, will you face a penalty? Learn what you need to know about cashing out a 401k account.

When Can You Cash Out a 401k

You’re allowed to cash out 401k accounts as so-called hardship distributions or early withdrawals if your plan allows, so not every retirement plan lets you cash out early. Make sure you learn everything you need to know about a 401k before cashing it out. Also, review the summary description and 401k document to find out whether early withdrawals are allowed.

For a hardship distribution, you can only take out the amount you need (say, $50,000 for medical finance emergencies). You’re limited to elective contributions to your retirement account and cannot take out any interest earned on your contributions.

The IRS counts losing your job, medical care for yourself or a family member, college tuition for yourself or a family member, and the down payment for purchasing a home as eligible hardships.

You’ll need to provide a written testimony to your employer stating that you can’t get the money another way, say by selling stocks or trying to get personal loan online. You’ll be taxed on the amount you withdraw, rather than expected to pay it back.

Can you withdraw from 401k without penalty?

For an early withdrawal, you must be under age 65 unless your retirement plan has a different definition of “early.” For example, IRA accounts define early withdrawals as those occurring before age 59.5.  Early withdrawals are typically subject to a 10 percent penalty on top of income tax, but do not need to be repaid.

If you want to withdraw money from your account and avoid a penalty, consider the option to loan shop from your 401k. Loans aren’t taxed as long as you follow the repayment schedule.

401k Penalty Example

Cashing Out a 401k Pros and Cons

Assuming you’re eligible to cash out 401k accounts, should you?

If you have immediate financial need, cashing out your retirement account may be the best way to solve the problem. Likewise, if not cashing out could leave you filing for bankruptcy (i.e. selling off assets and ruining your credit score), then it might be the least bad option.

Since you only pay back your retirement account with a loan, the biggest downside to cashing out is the immediate reduction in retirement funds. You will have to build back up, and your returns will be diminished in the meantime.

Pros and cons of early withdrawal from 401k

If you are young and you anticipate having a lot of time to rebuild your nest egg, it might be worthwhile to withdraw from a 401k for something like graduate school or a down payment on a home.

You’re going back to school because you hope to switch careers? You anticipate earning more in your new career? Then cashing out your 401k may be preferable to relying on student loans for tuition.

If you don’t meet the hardship criteria, explore other options before cashing out a 401k. Between the penalty and your tax liability, you’ll lose a lot of money in the process. Money you may need when you’re ready to retire.

However, if you are close to retirement age, and don’t want to work into your 70’s, you may be better off keeping the money in your 401k. There, it can earn you greater returns for your upcoming retirement.

Before you decide what to do, weigh the pros and cons of cashing out a 401k vs. any other options. Then decide what’s right for you based on your unique circumstances and your long-range goals.

If you’re like most people, mere mention of the word “retirement” may strike fear in your heart.  After all, anticipating how much you’ll need to sock away for the future can seem overwhelming — particularly if you haven’t yet started saving. The good news? Financial planning for retirement doesn’t have to be scary. Planning ahead can help you not only have enough to live, but enough to live well during your retirement.

How Much Do I Need to Retire?

This is the Million Dollar Question when considering cashing out a 401k…

Will you need one million dollars to retire? Two million dollars? Less? More? Somewhere in the middle?  While you’ve probably heard the one million figure tossed around in discussions about what it takes to retire, the answer is not as straight-forward as you think.

The reality is that there’s no “magic” one-size-fits-all amount when it comes to retirement planning. Rather, how much you’ll need depends on a number of highly personalized factors. Ranging from your personal net worth and financial situation for your unique goals. Factor in the fact that people today are living longer than ever and uncertainties about healthcare and Social Security, and the picture grows even murkier.

The Income Imperative to Retirement

Despite the challenges, it is possible to adequately plan for retirement. One of the biggest factors in determining your retirement goals, according to many financial advisors? Your income.

Experts recommend basing your retirement savings goals on an 80 percent replacement rate on your current income plus an annual increase for inflation. In other words, if you make $100,000 a year, your retirement portfolio will need to generate $80,000 in income annually. Taking into account an inflation adjustment factored.

Given vast differences in income, it follows that a sizable gap exists in terms of what different people may end up needing. Consider a recent survey by the Employee Benefits Research Institute. It indicates that roughly 10 percent of today’s workers think $1.5 million will see them through a comfortable retirement. When 20 percent place the figure between $250,000 and $499,999.

Beyond Income for Retirement

Others argue, however, that income is less important than it’s made out to be when it comes to answering the oft-asked question, “How much do I need to retire?” According to certified financial planner Elizabeth Grahsl as reported by CNBC, “The only thing that matters is your expected expenses in retirement.” Of course, these also vary, and can be influenced by everything from your spending patterns to whether your home is paid off.

Luckily, a number of resources exist aimed at helping you understand your unique financial picture. Retirement savings calculators from KiplingerCNNNerdWallet and MSN are just a few of the money management tools useful resources designed to help you get –and stay — on track.

One last thing to keep in mind? Coming up with an initial retirement plan is only one part of the process. Also essential? Evaluating that plan on an ongoing basis. Changes in factors ranging from your employment situation to the economic climate can vastly impact your portfolio’s outlook. Routine check-ins can help you determine whether you’re still in good shape or if corrective action is necessary.

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