If you are in the market for a new home and short on cash, you might have considered using your IRA or 401(k) to purchase your new dream home especially with today’s stricter mortgage guidelines. You might even be considering using your retirement funds to put a larger down payment on the home to free up cash for a monthly mortgage payment instead.
According to Roger Wohlner, financial expert at the
Equifax Personal Finance Blog, you need to think long and hard about this before you take that step. His recent post, “
Should You Use Retirement Savings to Pay Off Debt?” warns of the large tax penalties you could incur if you dip into tax-deferred retirement savings accounts.
Wohlner explains that if you take the money out of your retirement account, you’ll pay taxes on it according to your tax bracket, so $10,000 will cost you an extra $2,500 if you’re in the 25 percent income tax bracket. Plus, if you’re younger than 59 ½, you may pay a 10 percent penalty as well.
On the other hand, you’ll get tax benefits for your mortgage interest. If you’re planning to use retirement funds to lower your mortgage, Wohlner says you’ll need to calculate both the tax costs and lost deductions. Since credit card debt generally carries a high interest rate and sees no tax benefits, it may make more sense to pay down your cards using your retirement savings. But still, you’ll need to be very careful. Even if it pays in the short term, you’ll lose ground on your retirement savings and the benefits of compounded interest.
What’s your best course of action? There’s no easy answer to paying off debt while saving for retirement. Check out the
Equifax Personal Finance Blog for Wohlner’s complete tips and links to more retirement planning articles.