Insurance 101

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  • Avoid Premature Fund Withdrawal

  • In a recent Wall Street Journal poll, approximately 25% of all respondents actively planning for retirement said they have prematurely withdrawn money from their retirement accounts. The most common reasons for the early withdrawals include a family member losing a job and needing money for a down payment on a home.

    The online questionnaire surveying 2,897 U.S. adults revealed that respondents earning less than $35,000 per year are the most likely to be adversely affected by unplanned expenses - and they tend to compensate for those expenses by making premature withdrawals from their retirement accounts. Conversely, 70% of respondents with an income of at least $50,000 per year have never made a premature withdrawal.

    Other important findings from the study include:

    • Thirty-three percent of all 35 year old respondents have made premature withdrawals. The researchers concluded that at this age, working adults begin experiencing the financial pressures that are the catalyst for premature withdrawals.
    • Seventy percent of all respondents with full-time employment have never made a premature withdrawal. Respondents with part-time employment are affected more by housing-related expenses and are apt to make premature withdrawals to meet those expenses.
    • Thirty-three percent of respondents who made premature withdrawals were unable to pay them back, and 45% said they either cannot pay back the funds or have not begun to do so.

    Unfortunately, there are times in life when you do need additional cash, such as a loss of income due to the death of a family member, a reduction in income because of switching from full-time to part-time, or for a down payment on a house. However, borrowing from a retirement account to finance these unexpected expenditures is never a good idea.

    If you’re under 59½ years old and you take out a loan from your 401(k), unless you pay it back on time you’re subject to federal and state income tax, as well as a 10% IRS penalty tax for early withdrawal. If you’re downsized or you quit your job, the loan must be paid off within 90 days. Another important consequence of not paying back the loan is that it will severely impact the quality of your life when you retire, and could even force you to drastically alter the retirement lifestyle you’ve worked so hard to create.

    Additionally, you can’t take out a loan from your IRA; however, you can withdraw funds from for up to 60 days, tax-free. Keep in mind that if you don’t replace the funds within 60 days, you will owe income tax plus a 10% early withdrawal penalty. In this instance too, not replacing those funds in your IRA will negatively affect the quality of your retirement.

    The study also revealed changes in the way some working adults view the manner in which they will fund their retirement. Compared to the 2007 poll, the number of people who expect to rely on Social Security as a primary source of income during retirement fell. This decline comes mainly from respondents ages 35-44 and those over 55. Fifty percent of the respondents in these age groups expect to rely on their 401(k) and one-third see their IRA as a primary source of retirement income.

    There are some real advantages to investing retirement money in a 401k and IRA. Both accounts grow tax-deferred and withdrawals made after retirement are taxed as ordinary income. In addition, many employers offer matching contribution 401ks, which adds to your retirement nest egg. However, relying on loans from these accounts to bail you out in a time of need might not be the best solution. Not only will you have to pay the loans back within a short period of time, but failure to do so can result in a steep penalty. Try to set aside money for life’s unpredictable turns so you don’t run the risk of negatively impacting the quality of your retirement.

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