When is it okay to use retirement savings to pay off credit card debt?

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When your budget is tight and your debt seems insurmountable, it’s easy to see the money you’ve saved in your retirement account as a way out of a bad situation.

With inflation and rising consumer prices, Americans are turning more to credit. Credit card balances have increased by $46 billion since the first quarter, according to the latest household debt and credit report by the Federal Reserve Bank of New York.

Year-over-year, there has been a 13% increase in credit card balances since the second quarter of 2021, which is the biggest increase in more than 20 years, according to the report.

Other balances – which include retail cards and other consumer loans – increased by $25 billion.

New York Fed researchers also found modest increases in delinquent payments for mortgages, auto loans and credit card debt as lenders end forbearance programs established early in the year. the pandemic.

Credit card debt rises as inflation forces Americans to borrow more

Data reflects questions I receive on my 1-855-QUESTIONPUBLISH (1-855-275-7678) toll-free line. People are afraid to pay off the debt they have been carrying for some time.

A caller from Northern California wanted advice on how to get rid of $13,000 in credit card debt at 22% and another $7,000 in personal loans.

“I have a very good income of $121,000,” she said. “I have a measly $30,000 in my Federal Retirement Account. Should I withdraw the money from the Federal Retirement Account, which has been losing money lately?”

After speaking with the caller, who requested that her name be withheld, I made a plan for her.

Here is the context: She is 63 years old and has just received the remaining balance of approximately $175,000 in student loans repaid under the federal Civil Service Loan Forgiveness Program. Before calling the toll-free line, she had already taken out a $10,000 loan from her Thrift Savings Plan, the federal government’s version of a 401(k). Her goal was to use some of the money to help her adult daughter, who is going through health issues. She spends about $500 more every month on medical bills for her daughter.

My assessment: She should stop withdrawing money from the TSP.

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Here’s when you should withdraw funds from your retirement account if you’re not already retired: when there’s no other choice. You have exhausted all your non-retirement savings and exhausted other non-debt related sources of help.

Then, as a last resort, you may have no choice but to tap into your retirement account. But keep in mind that if you’re under 591/2, you could be subject to a 10% early withdrawal penalty. And even if you don’t get hit with the penalty, you have to pay taxes on the money.

A retirement loan is slightly better than a withdrawal. In a bear market where your retirement portfolio is under strain, it might make sense to use the cash to get rid of higher interest rate debt.

But generally, you should try to avoid borrowing from your retirement account. During better times, you might miss out on compounding income if the money was left in your account.

My advice: Because she had already borrowed from her TSP, I suggested that she set aside about $3,000 for a cash cushion and use the rest of the money to pay off the two small loans, which would free up $300. .

And yes, I know his credit card debt is more expensive. But when getting out of debt, tackling smaller debts and clearing them often motivates people to become more aggressive in paying down their balances.

Ready to pay off your credit cards? Try the “Debt Dash” method. Image without caption

We briefly discussed whether she should file for Social Security because she’s over 62. But if she plans to work a few more years, she shouldn’t take Social Security until she’s at least reached full retirement age of 66 years and eight months. If you haven’t reached full retirement age for the entire year, Social Security will deduct $1 from your benefit payments for every $2 you earn over the annual limit. For 2022, this limit is $19,560.

I suggested he look for cuts in his budget.

I asked if she could cut anything from her budget.

His rent of $1,000 a month is reasonable given his income.

I asked her to pull her checking account statements for the last 12 months and, with a highlighter, go through them to find all that she could squeeze out of her monthly budget. Here is what she found:

“So far the biggest items are Costco and the health food store,” she emailed. “Last month I spent $683 on food and gas at Costco just for me. The month before, I spent $1,000. I had a guest at home that month.

She can reduce the cost of cell phone service, which is $190 a month for her and her daughter. “She has to get her own service when she starts working. Maybe I can get what I need for $75 a month. That’s $115 saved there.

She identified an additional $150 in savings by reducing her monthly trips to Costco and health food stores.

There was $40 more if it canceled three streaming services. So it happened, we discussed other toppings to find the money to pay off his debt.

“It was good to get into the thick of it with my spending,” she admitted.

I also encouraged her to call the credit card company and see what she could do to lower her interest rate or work with them on a payment plan that could speed up her debt reduction. She has done so and is awaiting a response from the lender.

7 Ways to Reduce Your Credit Card Debt After the Fed’s Rate Hike

With another pair of eyes, the caller could see she had options. If you think you need help, get free financial coaching and advice through America saves (americasaves.org). You can also get help from a non-profit credit counseling agency by visiting the National Credit Counseling Foundation or by calling 800-388-2227.

If you’re assuming you shouldn’t touch that precious amount of money that’s meant to see you through your retirement years, you might also find you have other options.

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