2nd Opinion- 401K Withdraw towards student loans

[ghengist]

Hello fellow Mustachians-

First post here, but a long time follower of MMM. I have some student loans that I've been recently fallen behind on and previous to that was struggling to make minimum payment. I'm 26 yrs and left my previous employer of 3.5 years @ $39K base rate. The employer was 401K matching up to $2500, 20% vesting annually. I've never been great at saving but I contributed about $3000 annually since the match was part of my compensation. I started a new job several months ago that seems to be going well. My new base rate has increased to $53K and they offer quarterly profit sharing in place of retirement plan.

My student loans are kicking my butt, even with the new pay increase. I'm seriously considering chopping them down by 2/3. Highest interest first of course. This would eliminate almost 50% of my debt to income ratio and boost my credit substantially, allowing me to get more done at earlier point in my life. I've been rebuilding my credit since I co-signed on a sibling's auto around age 20 that I got burned on. I've since had a successful auto loan, and half way through a second one. Credit is hovering at 600

My current 401K stats are:

Vested Balance: $13,680.59
401K Loan Balance: $994.62
Taxable Amount: $12,685.97

Because uncle Sam is going to get his share either now, or when I retire, these taxes are irrelevant to me
Federal Tax: $2,736.12
State Tax: $273.61

Estimated Payout: $9676.24

Student Loans:
$6,205.06 @ 6.8%
$2,635.71 @ 6.8%
$4,085.11 @ 5.6%
$1,272.09 @ 5.6%
$1,071.93 @ 4.5%
 
Other loans:
Auto Loan: $18,100 @ 8.9% (43 months left)

Now, comes the IRS 10% penalty since I'm not 59-1/2 years old. I've calculated approx $960 due at tax season. I'm planning to offset this amount with the $2500 student loan payment credit. Sorry to make this so long. Trying to make an informed decision about my financial future.

Thanks!
GhengisT

[CDP45]

Sell your car, that's what's really killing you. You're making tons of money, I bet people will ask to see your total monthly spending too. You could pay off your student loans at 1100/mo in the year. You prob need to get some roommates,cut costs. Possibly consolidate the student loans.

[hoodedfalcon]

I agree with CDP45. The problem is your car. You should really list out your monthly expenses. Those (relatively) minimal student loans shouldn't be kicking your butt.

[dantownehall]

If you want to use the 401k money, check to see if you have the option of taking a 401k loan.  I think most plans offer this; you get a check with few to no questions asked, and when you're paying back the loan you pay the interest to yourself instead of a bank.

But if you pay down any of the loans, amke it the auto loan (highest interest rate).

[kathryn1029]

dantownehall-- this just made a light bulb click for me, as I'm about to take on student loans myself and would, of course, rather pay myself interest over a bank. Do you have any experience with this? My question would be whether taking about 65% out as a loan would be "too much"

[frugaliknowit]

Don't withdraw or borrow from the 401K.

Going forward, only contribute to get the maximum match, if any, until your loans are gone.

Ditch the car, get a beater for cash, attack the loans.

[Cheddar Stacker]

ghengist, I agree with others, it's the car loan that's killing you, not the student loans. Sell the car, pay off the loan, get a decent used car for $7,500 and find a reasonable loan for that.

Also, I'm not sure you fully understand the tax law. Student loan interest is deductible, up to $2,500. That will give you a benefit of $625 (2,500 x 25%). This will not offset the penalty.

Cashing out your 401k is a very, very , very last resort. Don't do it, find another way.

401K loans:
Since people are asking I will circle back with some stuff I've posted here in the past. Ghengist can't do it because you have to be currently employed where your 401k resides.
@kathryn1029, you can only take a loan up to 50% of your 401k balance.

I will be back with another post when I find my previous one. Stay tunes.

[Cheddar Stacker]

Here's the whole post if you want to read the context of this:
http://forum.mrmoneymustache.com/index.php?topic=20550.msg343584#msg343584

Excerpt:

401k loan Pros:
Interest is around 4-5%, plus maybe $25-50/year fee.
Interest is paid to yourself within the 401k, not paid to a bank.
It acts as a bond in your 401k (fixed interest, guaranteed return on investment).
You don't have to get approval from a bank.

401k loan Cons:
If you get fired/quit you have to either pay it back in full or withdraw the outstanding balance (So don't do this if you really plan to get that other job soon).
You can only take out the lesser of $50k or 50% of your 401k balance.
It takes away from your other 401k investments pool, so there's an opportunity cost since that money isn't invested.
You pay it back with post-tax money ( you do this for all debt, but it feels different here as a paycheck W/H so worth mentioning).
You might not be able to contribute to the 401k while the loan is outstanding (I was able to when I took out a loan for an investment, all plans are different).


I've personally taken a 401k loan for an investment opportunity. I'm a proponent of doing it if the circumstances are right and you fully understand what you are doing. Just be careful.

And again, this info is for others, not the original poster ghengist, because they are no longer at the job where the 401k funds are.

[kathryn1029]

Thanks Cheddar Stacker-- I would be quitting my job to go back to school, so it wouldn't work for me either. Regardless, I ran some numbers and the long term implications of taking out the 401K loan are far, far worse than just paying a couple thousand in student loan interest. Thanks for the information.

[odput]

I asked this question a few months ago here:  http://forum.mrmoneymustache.com/index.php?topic=21404.msg357589#msg357589

Short version of it is don't do it.  Since you will have to cash out your 401(k), there are lots of hidden associated costs and tax implications

[Eric]

Your student loans are less than your car loan and at lower rates.  You're 26 years old and in debt!  Why are you driving a $20K+ car?  Agree with others that the student loans are not as big an issue as the car.  Plus you make plenty of money.  There's no reason to raid that 401K.  You want that money growing for you.

[okashira]

Hello fellow Mustachians-

First post here, but a long time follower of MMM. I have some student loans that I've been recently fallen behind on and previous to that was struggling to make minimum payment. I'm 26 yrs and left my previous employer of 3.5 years @ $39K base rate. The employer was 401K matching up to $2500, 20% vesting annually. I've never been great at saving but I contributed about $3000 annually since the match was part of my compensation. I started a new job several months ago that seems to be going well. My new base rate has increased to $53K and they offer quarterly profit sharing in place of retirement plan.

My student loans are kicking my butt, even with the new pay increase. I'm seriously considering chopping them down by 2/3. Highest interest first of course. This would eliminate almost 50% of my debt to income ratio and boost my credit substantially, allowing me to get more done at earlier point in my life. I've been rebuilding my credit since I co-signed on a sibling's auto around age 20 that I got burned on. I've since had a successful auto loan, and half way through a second one. Credit is hovering at 600

My current 401K stats are:

Vested Balance: $13,680.59
401K Loan Balance: $994.62
Taxable Amount: $12,685.97

Because uncle Sam is going to get his share either now, or when I retire, these taxes are irrelevant to me
Federal Tax: $2,736.12
State Tax: $273.61

Estimated Payout: $9676.24

Student Loans:
$6,205.06 @ 6.8%
$2,635.71 @ 6.8%
$4,085.11 @ 5.6%
$1,272.09 @ 5.6%
$1,071.93 @ 4.5%
 
Other loans:
Auto Loan: $18,100 @ 8.9% (43 months left)

Now, comes the IRS 10% penalty since I'm not 59-1/2 years old. I've calculated approx $960 due at tax season. I'm planning to offset this amount with the $2500 student loan payment credit. Sorry to make this so long. Trying to make an informed decision about my financial future.

Thanks!
GhengisT

Want to replace one stupid financial decision with another, huh?
Sell the dumb car and get a $2000 beater that gets 40mpg until you're debt free.

The only thing to consider for that 401k is rolling it into an IRA, and perhaps a Roth IRA if your income is low enough in 2014 because of your employment lapse.