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Stephen G.
Stephen G., Sr Income Tax Expert
Category: Tax
Satisfied Customers: 7154
Experience:  Extensive Experience with Tax, Financial & Estate Issues
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I have a pension that I can cash out (just left my job) in

Customer Question

I have a pension that I can cash out (just left my job) in the neighborhood of 165000; I have 68,000 in credit card debt and 22,000 in auto debt. The CC payments are almost 1800/month to maintain, and the car payments total 925. Would it be worthwhile to cash out the pension (even with the penalties) to pay off all the loans?
Submitted: 1 year ago.
Category: Tax
Expert:  Stephen G. replied 1 year ago.

Are you starting another job right away?

How old are you?

Customer: replied 1 year ago.
I have started another job, and it has a 401k available that I could roll the pension into. I also have just over 200,000 in a separate 401k. I am 55.
Customer: replied 1 year ago.
Also, the old job was in NH and the new one is in NJ, and I have purchased a house in NJ but not yet sold the one in NH, so that is weighing on my mind. Seems more effective to pay off the cards than worry about making the second mortgage payment.
Expert:  Stephen G. replied 1 year ago.

Well, with respect to the 165K in the retirement plan for the job you just left, since you are 55 & separated from service you should qualify for one of the exceptions to the 10% early withdrawal penalty. However, if you were to withdraw the funds necessary to payoff the 80K in debt, there won't be much left of the 165K.

What type of plan is the 165K?

One alternative to consider would be to roll the 165K into the new 401K and then take a loan from the new 401K to reduce the credit card debt to a more manageable level. That way, you would be paying yourself interest on the 401K loan at a lower interest rate (which would increase your 401K income), and at the same time not kill you on income taxes if you were to take a withdrawal from the 401K.

Customer: replied 1 year ago.
The pension is a defined benefit plan. Lump sum value to me today is 165k. 20%tax withholding is about 33k, leaving enough to pay off all the debt, which would be a huge relief.
Expert:  Stephen G. replied 1 year ago.

That also would leave you with your other 200K 401-K to use as a temporary reserve if your NH house doesn't sell.

Or you could take the loan from the 200K 401-k rather than the 165K after it is rolled to the new 401k at the new job.

Truthfully, if I were you, I'd sit down with a local CPA in NJ & sort this all out so he/she can work out your tax projections for 2015 & 2016 as that might make a difference as to the best course of action.

Customer: replied 1 year ago.
Talk to your
Local tax guy isn't exactly what I call an answer...
Expert:  Stephen G. replied 1 year ago.

Yes, but that 20% is just the withholding, not the actual tax you would pay. You will owe more than that with your return.

Hang on a minute.

Expert:  Stephen G. replied 1 year ago.

If you read what I suggested, I'm not talking just about paying off the loans & the 401K issue; with this much money at stake, you really need to work out a financial plan & tax projection; we can't do that in this Q/A format. That's all I meant.

Customer: replied 1 year ago.
Okay well thanks. Didn't really tell me anything I didn't already know...
Expert:  Stephen G. replied 1 year ago.

You have to be careful re the withdrawals (verses a loan) as if you are a NJ resident when you make the withdrawal, you'll pay NJ taxes on the withdrawal also.

Keep in mind that 20% is not the actual tax you'll pay.

Expert:  Stephen G. replied 1 year ago.

All you asked was whether or not it would be worthwhile to pay off the credit card debt & the auto loan & how to do so. I'm giving you the factors to consider.

Customer: replied 1 year ago.
I was pretty sure I knew what to consider, but was looking for actual advice on the value of doing or not doing what I proposed.
Expert:  Stephen G. replied 1 year ago.

The plan that I gave you as an alternative to CONSIDER would eliminate the 20% withholding as well as ANY tax on the loan & still reduce the CC debt as much as you want to do so.

Expert:  Stephen G. replied 1 year ago.

Well, that's exactly what I'm telling you to make sure you understand what else will result from the withdrawal.

If you feel that you can't repay a 401k loan over a 5 year period, then that wouldn't be the way to go.

Expert:  Stephen G. replied 1 year ago.

The advantage of the loan is that you pay yourself the interest which increases your return on the 401-K.

Expert:  Stephen G. replied 1 year ago.

You haven't given me any figures to work with; for example the interest rates on the CC debt.

Expert:  Stephen G. replied 1 year ago.

One thing that tends to happen to everyone is that once the CC debt is completely paid off, it tends to build up again over time. That's one reason why it seldom makes long-term since to use "long-term" assets, since as your retirement funds (which have build up over a lifetime of effort) to pay off your current living expenses absent a job loss, major medical bills, those type of things.

Expert:  Stephen G. replied 1 year ago.

However, your piece of mind is most important & in this state of transition between homes & jobs, if paying off the CC debt completely rather than replacing it with a longer-term 401K loan makes you feel more secure in your current financial situation, then it makes sense to do so. I just hate to see you be subject to the income tax on the withdrawal at this stage of the game.

So, the bot***** *****ne is that presuming that the interest rate on the Credit Cards is (or will be) higher than your investment returns on the 401k; then it makes financial sense, particularly in your present circumstances, to withdraw the funds necessary to payoff at least the CC debt, although as I suggested I would also consider a loan against the 401K to pay off the CC debt as that would avoid or at least defer the income taxes on the funds necessary to pay off the CC debt. I wouldn't pay off the auto loan as the interest rate on that debt should be low.

Expert:  Stephen G. replied 1 year ago.

If you have any follow-up questions or I can clarify anything I've said, please don't hesitate to ask.

Thanks very much for using JustAnswer.com

Customer: replied 1 year ago.
Thanks for the the summation. It's helpful.
Expert:  Stephen G. replied 1 year ago.

OK, thanks. I'm here this evening if you think of anything else. You can come back to this question anytime, even if it is "closed".

I would appreciate it if you would take a moment to rate my response as that is the only way we receive credit for our work.

Thanks again for using JustAnswer.com

Steve G.