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Posted by kastnna on February 29, 2008, 12:34 pm
On Feb 29, 9:51 am, Noem...@blank.com wrote:
> I am about to receive around $90k from an in service distribution from
> my ESOP (Same tax rules as a 401k plan or IRA with 10% penalty etc). I
> have opened a Traditional IRA account at my bank to roll it over to.
>
> I have $13000.00 in cc debt that I would like to pay off by
> withdrawing this amount from my new account.
>
> I understand that I would pay a 10% penalty plus the extra income tax
> hit BUT once those cards are paid off my cash flow will increase by
> $300.00 a month (since I wouldn't have cc payments anymore). I like
> the idea of being out of debt so that is why this appeals to me even
> though it doesn't seem to make much sense from a financial standpoint.
>
> What would be a better way to handle the CC debt? Should I use my
> equity line instead and avoid the early distribution and be able to
> write off the interest? However I would still be stuck with monthly
> payments.
I fully respect the satisfied feeling of "being out of debt", but it's
not always the best thing to do. I get the impression that your brain
and your heart are conflicting on this decision. Please take a moment
to look at our outside points of view.
Assuming you are in the 25% tax bracket, you will need about $20k to
pay-off that $13k in credit card debt using your proposed method. That
stings. It will take a long time to put that back into your retirement
account. I don't consider this method as paying off debt, but rather
trading it for a larger debt in the future (by having $20k compounded
dollars less to retire on).
Another alternative: you can use your HEL which not only lowers the
interest rate paid on your debt but also makes that interest
deductible. Just as importantly, it leaves that $20k in your IRA to
grow at a rate that is hopefully higher than the interest rate you are
paying. The increased discretionary cash flow can be used to pay down
the HEL faster or to boost your savings. Either are viable options
dependent on your risk preferences. A drawback to this plan is that
the HEL is secured debt and failure to repay could result in
foreclosure. The probability of this occurring is unknown.
**All of the above assumes that your HEL has a favorable interest
rate, your tax scenario is as I assumed, and that you can earn a
positive net return on your investments. These assumptions may or may
not be accurate.
Good luck in your decision making.
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