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Ask Dave

Cash Out 401k to Pay Debt?

Chad should NOT cash out his 401k to pay off debt because 40% of it would go towards penalties and taxes.

QUESTION: Chad and his wife have $35,000 in debt between credit cards, student loans and car loans.  They bring home $150,000 a year.  They also have $25,000 in their 401-K savings.  He wants to jump-start their debt snowball.  Should they use that money to eliminate their debt?

ANSWER: You should not take the money from your 401-K to eliminate your debt because $14,000 will go to penalties and taxes – that’s 40% of your savings.  It’s like taking out a loan with 40% interest to pay off your debt.  That’s a bad plan. 

Live on less for one year, get on a written budget, and you can have it all paid off in less than a year.

I would never cash out retirement savings to pay off debt unless it is to avoid foreclosure.

Thank you!  Your guide is on its way.

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