Need Cash? Some Accounts Are Better to Tap Than Others
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How are Americans coping with pandemic-related income gaps?
Future Money Briefing for Tuesday, August 11th. I'm J.R. Whalen for The Wall Street Journal. Millions of people have been out of work for several months during the pandemic, and many are looking for sources of cash beyond their weekly unemployment benefits to help them pay bills and cover unexpected expenses. There are several options, but none of them are a silver bullet.
I know they need the money now, but they also have to think long term what that could do to their financial health.
Wall Street Journal contributor Cheryl Winokur-Monk will take a look at the pros and cons of taking out a home equity loan, also tapping into an education fund, or borrowing from family. That's after the break.
Until the federal government's supplemental jobless benefits resume, many Americans are facing a financial gap. Some are starting to look into tapping into their assets for quick infusions of cash. Our contributor Cheryl Winokur-Monk has been looking into the risks involved, and she joins us now to discuss. So Cheryl, you know, the first place a lot of people look for funds is their retirement accounts, you know, like a 401k.
Why might withdrawing from retirement accounts be risky during a crisis?
And the government has actually relaxed some of the penalties for making withdrawals. But why do you say that's not a good idea?
Well, there are a lot of reasons why it's not a good idea. And there's a lot of money in those accounts oftentimes. And so it's tempting to tap those account. But there really can be issues because you're going to pay tax on withdrawals, even though that tax can be recovered if you pay back the distribution within three years. But there are also tax ramifications if you don't pay back a loan according to the loan terms. And loan is very strict. So there are differences between withdrawals and loans. And you really have to understand these and some of these other ramifications before you take that money out. The other issue is that it can be difficult to replenish these funds over a retirement that really could last 30 years or more.
So other sources of funding could really be better because it's harder to replace this income later in life.
When is tapping a 529 college savings plan a better choice than a 401(k)?
Okay, so what if somebody has a so-called 529 education savings plan? Does it make sense to draw from that?
It's probably better to do that than out of a retirement account because it's easier to get help for education through loans, grants, scholarships, things like that. However, you're going to still lose out on tax-deferred growth. And also, the earnings portion of a non-qualified 529 distribution would be subject to ordinary income tax and a 10% penalty. except in limited cases. So yes, you could potentially tap that account, but there are trade-offs.
And how about short-term savings accounts? Is that a better idea?
Those are pretty easy to use. They're right in front of you. So there's no necessarily long-term consequences.
Are short-term savings accounts or CDs the safest place to draw emergency cash?
And there certainly aren't tax consequences since it's after-tax money. There may be restrictions, though, on how much money you can make, how many withdrawals you can make in a month. And some CDs, if you have your money in a CD, have penalties for early withdrawals. But if you have savings to work from, that could be an easy place to go.
Okay, so some potential benefits there. And, you know, also lots of us are spending most of the day at home. How about putting the value of the house to work in a home equity line of credit or a loan?
So those could be very attractive options, especially now with interest rates so low. There can be things to consider, though. You have to figure how much your home's value is, how much you actually owe. any closing costs, prepayment penalties. You also have to consider if you have a college student and you take a home equity loan, any unspent proceeds will count as an asset on the free application for federal student aid, which is commonly known as the FAFSA.
What should homeowners consider before using home equity as emergency funds?
So it's not a deal breaker, but you just want to be aware.
Well, those rates are low, but credit card rates are still pretty high. That probably knocks credit cards off the list of places to draw cash, right?
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Chapters
7 chapters
1
How are Americans coping with pandemic-related income gaps?
0:05–1:11
2
Why might withdrawing from retirement accounts be risky during a crisis?
1:11–2:05
3
When is tapping a 529 college savings plan a better choice than a 401(k)?
2:05–2:52
4
Are short-term savings accounts or CDs the safest place to draw emergency cash?
2:52–3:51
5
What should homeowners consider before using home equity as emergency funds?
3:51–4:43
6
Can credit cards, life insurance or other products be viable last-resort cash sources?
4:43–6:01
7
What are the pros and cons of borrowing from family versus formal lending options?
6:01–6:36
Speakers
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