Q: I’m 61 and plan to retire at age 62, though I would work until 65 if needed. I would like to pay off a few credit cards using my 401(k). Is this a wise choice? I have about $10,000 in credit card debt.
A: I usually don’t like to see people use their 401(k) assets to pay off credit card debt because doing so shrinks a person’s retirement nest egg and most people face serious tax consequences by making early withdrawals from their retirement plans.
In your case, however, you are already a year or two away from retirement, so it makes sense to aggressively pay down that credit card debt so that it’s not hanging over your head while you are working. Read on for more financial reasons why this is a smart strategy for you.
Tax Free Withdrawals
Also, only individuals who are under 59 ½ years of age have to pay tax on the amount withdrawn, plus a 10% penalty for making an early withdrawal from their 401(k) plans.
In your case, however, since you are already 61 years old, you would not be subject to that 10% penalty, making the prospect of paying off your credit card debt an even more financially sound decision.
In fact, there is an exception in the law that allows penalty-free distributions from your 401(k) provided you are 55 or older when you leave your job.
A Good Rate of Return
Lastly, paying down your credit card bills will generate an effective return rate that’s not likely to be matched by your retirement investing plan.
In other words, you may be paying 15% or so interest rates on those credit cards. Therefore, that’s the return you’re essentially getting by paying off that consumer debt.
Chances are your 401(k) is not earning 15% a year. So go ahead, feel comfortable in your choice to tap that 401(k) money and clear away that credit card debt.
It’s a wise decision. Just be sure to manage you credit wisely in the future and avoid running up those credit card debts again during your Golden Years.