It is so difficult to sort through the financial minutiae in the midst of a divorce. Believe me – I know. I was right there only a few short years ago.
It can feel overwhelming knowing there is so much riding on these potentially life changing decisions. But, all you need is to be armed with the right information at the right time. You need to know what will affect you, your taxes, and your financial well-being down the road. As with anything, it takes some time, research and a little planning. I’m here to help!
One question I get asked a lot is: “Should I take a loan out against my 401k?” My answer is always: that depends. There are a lot of factors when considering a 401k loan. Here are a few things to be aware of in the short and long-term.
Is it your 401k account? If it’s your 401k account at work, talk to your Human Resources department about the loan repayment program they offer. Some employer’s plans require a certain rate of interest to be paid back on the loan. Find out the interest rate and weigh that against other options you may have for getting access to cash. Also, make sure you know what the payments will be to pay the loan back to yourself and ask yourself if it’s affordable in your budget. Some employers will make you pay back the loan in full if you choose to leave the company before the loan is fully repaid.
Is the 401k in your ex-spouse’s account that he’s required to split with you? During the divorce process, the method of splitting a qualified account, like a 401k, is through the use of a Qualified Domestic Relations Order (QDRO). This legal document , if it’s structured properly, can allow you to take a portion of the amount out in cash and not have to pay the taxes; however, you will have to pay the 10% early withdrawal penalty if you are under age 59-1/2. If you do not use a QDRO and you take the money out as a lump sum cash payment, you will be subject to taxes AND the penalty, if younger than age 59-1/2.
There are pros and cons to leaving it in or taking some of, or all, the money out. Do your homework on the consequences, usually taxes and penalties, if you take a withdrawal. If you choose to take a withdrawal, know why you’re doing it and stick to the plan for that money so you don’t end up in further debt trouble in the future.
Keep in mind that a cash withdrawal will deplete the amount of money in your retirement account. In other words, you will have less money in the account to invest, which lowers the growth potential, which inevitably will reduce your chances of retiring in the style that you desire. You could be putting yourself in financial jeopardy in what are supposed to be “the golden years” of your life. Start planning now, if you haven’t already, and find a good advisor you can trust to have these conversations with you. We all know it takes a village to raise a family, so does it take a village of professionals to sort out these financial details with you along the way.
~ By: Wendy Althen, CDFA®
Financial Advisor | Baird
Certified Divorce Coach, Lawyer, Yoga Teacher, Divorced Parent