I started saving for retirement in 1984. I was always taught the value of saving when I was a child. I saved until it hurt. I scrimped every single penny I could to save for what I hoped for an early retirement. I changed jobs, rolled my 401(k) into the IRA and kept going. My latest 401(k) is the same. I save until I run out of money each month. You know where it all is now?! GONE. I had it primarily in mutual funds and it’s back down to 1988 levels since 1/1/08. I’ve lost literally hundreds of thousands of dollars. So I cashed it all out and I’m starting to live life and blowing money like the rest of America.

It doesn’t pay to save. Blow it and have fun. I wish I would have taken that advice in 1988…I would be in the exact same spot I am today.

I am surprised she would even be considering charging another cent, given the situation she has put herself in. Maybe she was just being loose with her writing, but I would think in her situation she would be writing, “even thoughI have stopped charging and am planning NOT to charge another cent.”

I think Trent has an interesting point about how having debt can alter your outlook and how that could have a bad effect on a person in their late 20s. But then again, isn’t pulling out the cash from the 410(k)really just putting a “happy fix” on the situation? If in fact it is leaving you in a less advantaged position financially, you want to be thinking about resetting your emotions if possible. You should see if you can start feeling good about doing the “financially correct” thing, rather than choosing something suboptimal because it “feels” better and will restore “quality of life” (translation: make you feel that you are more flush so you can go ahead and enjoy a higher standard of living/consumption) To me, that’s just a signal that you need to recalibrate on reality. Facing up to the fact that it’s going to take 3 years’ worth of payments to kill that debt will be worth it in the end. Because after that 3 years, you could apply those payments to other goals.

I would also say, if you are getting hit with late charges (it’s not clear if she means this when she says “finance charges) on your cc debts, it MIGHT be worth while to take enough out of your 401(k) to give yourself the cushion to stop that happening.

I disagree-as a rule of thumb, it doesn’t equal the same thing when you are comparing a taxable investment to a debt, but not when you compare a tax-advantaged 401(K) with paying off a debt. The debt has a shorter lifespan. When you cash out funds in the 401(k), you are losing not just the 3 years of interest, you are losing all of the tax-free compounding on that sum until retirement. That is leaving aside the penalty.

Really, to decide these situations you can use a rule of thumb like this as a guideline, but you really need to pull out your spreadsheet and put together comparative scenarios and project them forward 40 years. That’s the way I prefer, in the end, to get answers to such questions so I can make informed decisions.

As regards jamie’s comment as to whether cashing out a 401(k) last year before it dropped 35% would have been a lucky move or not–yes, it would have. But that would have been due to luck, and you can’t account for that.

Aside from the 10% penalty, whether you use money to build toward retirement or pay off debt is determined by emotion…what makes you most comfortable.

That really should be it. People say “but you need money in retirement due to compounding” or “you will never get that time to invest back” or “the miracle of compunding interest”

It isn’t a miracle, it is mathematics, and it applies to DEBTS as well as assets. Paying off a high interest debt mathmatically accomplishes the exact same thing as investing money at the same interest rate.

However, paying off the debt achieves a guaranteed rate of return, usually with lessened risk. It also usually makes people less stressed.

Also, disregard the taxes. You have to pay taxes on any money you use to pay off debt, whether it is from a qualified retirement plan, or from your own income.

So, you come back to the penalty for early withdrawal. Calcualte the penalty amount, and ask yourself if spending that amount of money is worth having the debt retired. Proceed accordingly

As I said before; I don’t suggest this as anything but a last effort. Getting input from professionals is definitely worth doing beforehand. I don’t regret doing it; but don’t suggest it either.

If the 401k is being completely neglected in order to pay off credit card, it might not be a bad move, particularly if there is a company match on the 401k.

Assuming she can withdrawal enough to satisfy all of her debt (probably not likely, but for illustrative purposes), she’d likely need to withdrawal about $38.5k (25% tax and 10% penalty), leaving her with $21.5k.

Using the four-year timeframe, her portfolio, if left untouched while yielding a 7% return, would be worth just under $80k.

However, assuming the credit card debt carries an average interest rate of 15%, it would require a monthly payment of $695 to satisfy that debt in four years.

If that $695 was then diverted to the 401k, she’d have about $67k at the end of four years, based on a 7% return. In other words, her net worth would be about $13k less than if the 401k was untouched. Obviously, it would be better to suck it up for four years and climb out of the hole.

However, if there’s a company match – say 50% of the first six percent, that would be another $173.75 per month that could be contributed, bringing the monthly contribution to $868.75. Over four years, at the same 7% return, the value would then be over $76k.

For many, that $3k trade-off might not be so bad, in and of itself. Once you add in the prospective tax benefit of contributing into the 401k, she may in fact come out ahead at the end of year four if those tax savings are further invested.

Of course, that’s just for illustrative purposes. She may not have any company match or she may already be contributing the maximum, her credit card rates could be lower, etc…

In summary, though, I think it’s worth evaluating if you have a 401k plan with a company match and you are entirely neglecting your 401k.

If you are already contributing to your 401k, but not enough to max out the company match, it may still be worth evaluating, but the benefit will not be as great.

Conversely, other than immediate satisfaction/peace of mind of eliminating the credit card debt, it is significantly less justifiable – if not simply foolish – if no company match is available and/or you are already contributing enough to max out the company match.

And, obviously, withdrawing from the 401k to pay off the credit card debt and NOT rerouting those monthly savings into a 401k or other investment account is quite possibly the worst financial decision someone could make.

Having two children, being 39 instead of 29 (as the questioner was) and seeing my marriage quickly desolving I made the decision to take that amount out of my retirement fund and pay off our tremendous revolving debt. It was to simply allow us to face a future with a monthly budget in the black; which even at minimum payments was not happening.

I’m not proud of what we did, but I want to post here just to let people know that we did the math on the difference between our 12-21% compounding interest on cards and our compound interest gain of saving that money for another 25 years (average 10%). Remember, the debt is accruing interest on interest also. We also had to take into account the severe penalties of withdrawal. From a mathematical standpoint, it still didn’t look like a good idea; but from a standpoint of getting back my family I made the decision.

I agree with most of the posts in that this is a last, last resort. We did it when we were on our last straw, and I can say I do not regret it. I am not proud of it, but do not regret it. My marriage, family life and career have all taken upswings which I do contribute some of to the fact that I’m not throwing up every night, wondering how I can make ends meet this month. Contrary to most people that do this, we haven’t ever charged another cent. At 40, retirement is much closer, and while our life has changed, the comfort came at a tremendous price. But worth it.

Now looking at the current cost, your 401k provider will w/hold 20% ($6,000) and send that to Uncle Sam, and you are responsible for a penalty of 10% ($3,000). Think about that $3,000 though. You pay that b/c you didn’t play by the rules. This money is earmarked for retirement, not temporary problems. Based on how much you’ve socked away in your retirement and how much you’ve racked up on your credit cards already, you probably make a healthy income. So this additional 30k is going to affect your tax situation, so 20% is probably not going to be enough, so you may pay more.

The old fashioned way of paying down the debt over time is your BEST bet. You have such a great retirement started, you would be robbing yourself of a really nice retirement. I think it is HORRIBLE advice to cash out. However, if you make less than $30,000/year and your budget is tight, and you really don’t have much to put into your credit card debt…..go for it, cash out.

Remember that $1,020,118 mistake when you are 65 though.

If you decide to take it out, combine and do loan. Whatever part of that loan you can’t pay back because of lost job, take out needed portion from remainder to pay tax man. The longer you can hold onto your job, the less penalty you will need to pay.

Generally, don’t touch 401, if you must, just be prepared for penalty. Do what you need to do. All other number are predictions and are worthless.

Don’t stop match contribution. It can be up to an instant free 8 years of interest. If not vested, or extra, forget it. Income now. Save later, before age 40 is good enough.

Don’t ever use a 401k to pay for consumer debt. This is basic principal of compound interest. And to those of you who ask “..so I can’t fund a retirement plan after age 40?” Well, hold on to your hats, you can, but you have lost so much ground, you better be ready for a very frugal retirement.

It appears she can pay off the cards as MVP suggested. Since she is young, she will receive the “magic” of compound growth in her retirement account. If she has to dig her way out for several years, so be it. It’s a good lesson and a good test to her claimed enlightenment of seeing her past foolish spending. An easy way out seldom teaches any lessons. Retirement is coming, it can be a soft breeze, or a train running a full speed. Which one hits you in the face is up to the financial decisions and choices you make.

Sorry to sound harsh, but I see the results of bad financial moves on a regular basis.

Welcome to installment 93 of the Carnival of Debt Reduction! I’ve included a little over half of the articles submitted through the BlogCarnival.com form to keep the Carnival close to topic. So enjoy this week’s posts in the Carnival and be sure to…