Raiding Retirement - A Huge No-No
April 26th, 2008 by Ana
In my post on How to Pay For College, I referenced a CNN/Money article that encouraged parents to raid their retirement to pay their childrens’ tuition bills. Becca left a comment on that post:
… Where I disagree is the comment in the article about “raiding the IRAs”. That should never ever be done. No one will give you a loan to retire. …
Since I have picked up quite a few new subscribers in the past couple months, it occurred to me not everyone is familiar with my opinion on raiding retirement. I take a hardline attitude on this: DON’T DO IT!!! Leave your retirement funds alone!
Don’t raid retirement to pay down debt (even as much as I love the idea of y’all getting out of debt!). Definitely don’t raid retirement for your kids’ college. And, by all that’s holy, don’t raid your retirement funds for something material!
When I say “raid retirement” I am not only talking about making withdrawals … I am also talking about those loans against your retirement funds as well. After finals are finally over, I’ll do some research on those stupid ideas like 401(k) loans and the even dumber idea of a debit card for your 401(k)/403(b)/whatever account just to get the hard and nasty numbers. Stay tuned for the ugly truth behind all the hype 
If you are still thinking about raiding your retirement funds by withdrawal or loan, you need look no further than the U.S. government for a shining (?) example of why this is a Bad Idea. Back in the 1980s, Congress had the “brilliant” idea of raiding the Social Security trust fund to help cover the budget. Twenty years later, quite a few (but not enough) government officials are now saying it has never been paid back and Social Security faces possible insolvency. We have the largest demographic group starting to retire … and a bunch of unpaid IOUs in the account. It’s the government’s equivalent of taking a loan against our retirement.
Unlike Congress, you cannot borrow however much you want whenever you want with the expectation that someone else will pick up the tab for you (although some people seem to act as if they can). Let’s face it, if that strategy doesn’t work for Congress, it will be disasterous for YOU.
I can think of only two instances where I would raid my retirement funds, and that would be my option of absolute last resort: as a last-ditch effort to prevent a bankruptcy or as the last option to pay for life-saving emergency medical care. I would go back into debt before tapping my retirement funds, and long-time readers will tell you that is saying a LOT. Let me repeat that for effect:
I WOULD RATHER GO BACK INTO DEBT THAN RAID MY RETIREMENT FUNDS!
I hope I have been quite clear on that point. So, unless your “retirement plan” is to move in with your children and grandchildren and be a burden in your old age, STAY OUT OF YOUR RETIREMENT FUNDS!
Posted in investing |
April 26th, 2008 at 12:36 pm
I would hate to make it as clear cut an argument as you have, as retirement fund are no more magical than any other lump of money. You might be 100% right, but I would have to sit down and run the numbers - this isn’t an emotional decision, which I am afraid you have made it into. Again - I think you are right, but I am looking forward to some hard numbers.
April 26th, 2008 at 12:44 pm
Eric, read my previous post “Leave your retirement funds alone” for the numbers.
April 26th, 2008 at 1:10 pm
Eric it is a 10% penalty plus your tax rate. Which is your AGI plus the amount you take out. So that will likely kick you into a higher tax bracket so up to 40% penalty. How’s them apples?
April 26th, 2008 at 1:23 pm
Actually, Eric, I think the important thing about retirement funds is that they’re tax advantaged and have a penalty for early withdrawal. So almost any situation in which you raid them is guaranteed to be a bad idea. Obviously, if you’re in the end-stages of AIDS or need a life-saving operation, that’s one thing. But college, vacation, debt repayment…the choices that most people are making are just big no-nos.
April 26th, 2008 at 1:24 pm
Oh, I forgot to add “hence the magic” and why they’re different from your other savings: tax-advantage + withdrawal penalty (and tax).
April 26th, 2008 at 1:54 pm
Also: eric’s comment about it being a matter of numbers vs an emotional reaction will be fodder for an upcoming post
April 26th, 2008 at 4:03 pm
I agree that the retirement savings should be a last resort if you need money.
I guess another thing to think about is not to put “too” much money into your retirement savings if it means not having enough of an emergency fund etc.
Mike
April 26th, 2008 at 4:26 pm
I agree raiding retirement funds is a horrible idea.
By the way the social security system is actually not in that bad shape. Medicare is what is going to kill us. Yes social security has some problems (they obviously need to move out the retirement date much further - it was established when life expectancy was like 25 years less).
April 26th, 2008 at 5:31 pm
After having raided mine over the last year to LIVE, I would have to agree with Ana. My income was so low that it really wasn’t much of a tax disadvantage but I am almost 50 and starting my retirement fund again. Sigh.. Good thing that I have a few more good years left in me.
April 27th, 2008 at 9:11 am
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April 27th, 2008 at 11:38 am
Just want to point out something that is not always well-known - if it’s a Roth IRA you are talking about, you can withdraw the money you put in at any point, penalty and tax free (since it was already taxed). You must leave any money earned *above* your initial contribution until retirement, or you’d be penalized on that. So the situation has a little flexibility in some cases. It’s not all 401(k) loan hell or massive tax penalties, as some people suggest. I totally agree that raiding a tax-free account like your 401(k) is NEVER a good idea. And I’d rather not touch my Roth, but it may make sense in some cases for some people.
April 27th, 2008 at 8:04 pm
Helen, I am going to disagree about raiding even just the principle of a Roth IRA. That unplugs the money and takes away the magic of compounding, which can NEVER be made up.
April 28th, 2008 at 12:16 am
AMEN.
April 28th, 2008 at 10:01 am
I am on the fence with regards to using money from the Roth. Here is my scenario….debt free other than the house, and 15k in my emergency fund (which about about 4 months of expenses). I started Roth’s last year. I considered stopping the Roth this year and upping the emergency fund to 25k. I decided against it. Instead, I put that 10k into the Roth for this ever. I hope to never need more than the 15k, but would tap my Roth if I need to. I follow Ramsey, so I understand what the emergency fund is for. It wouldn’t be for a car or vacation. But I made the choice to do the Roth this year instead of increasing my emergency fund by 10k. If I never have to go beyond the 15k, I get the advantage of having that 10k in a tax free retirement account that I wouldn’t have had if I just increased the 15k to 25k. I risk the principal because it is an investment rather than a savings account, but is worth the “risk”.
May 1st, 2008 at 12:25 pm
I agree with you Ana, personally I wouldn’t raid my retirement funds, it is unlikely to get replaced when it’s gone.
May 9th, 2008 at 9:22 pm
We decided to “raid” our newly-begun Roth IRAs–not because of any emergencies close to home, but because I don’t think the market is going to do well in the next 10 or so years. The Wall Street Journal reported last month that the stock market had a “lost decade”–no real growth over the last 10 years. I don’t think it’s looking better anytime soon, especially with baby boomers withdrawing their money from the stock market as they retire, and with this slowdown here. Not to mention inflation eating away at the purchasing power of the dollar.
We could invest in bonds, but those don’t look very good either. Low interest rates and the housing market is making the bonds with mortgage backed securities in them very risky. Muni bonds look risky with places like Vallejo filing for bankrupcy.
We didn’t have to pay any penalties, since we had made our initial investments at the height of the stock market last year (sigh), so we had lost money. The power of compounding doesn’t work too well if the market is losing money.
What did we do with the money? There wasn’t very much of it; we are in our mid-30s. We looked to “invest” close to home in things that would save us money later. We put a good food supply in the basement, and I’m stocking up on yard sale clothes in sizes the kids are growing into. We bought an efficient wood stove fireplace insert so if heating gets super expensive, we have another alternative. We may look into a CNG (compressed natural gas) car, which is a bargain to drive in my state at 63 cents per gallon. We moved some of our money out of the dollar into foreign currency CDs at Everbank. If we’d had more, I would have put it onto my mortgage. That’s a sure thing, and the market isn’t a sure thing, especially now.