Many Americans are finding themselves facing potential foreclosure and lack any reasonable means to tap into money besides their 401k funds. That presents a major dilemma, not just for current finances, but for the long-term financial picture as well. Rather than debate whether or not these homeowners should have even been in the house in the first place, let’s just look at the choices they have remaining, neither of which are good.
On the one hand, they can just stop making those mortgage payments and set whatever money aside in preparation for the inevitable foreclosure. Believe it or not, this may make more sense than their other option. While foreclosure is not a good outcome, their finances may not be totally destroyed in the process. They may even keep enough liquidity in their control so they can survive in the longer term.
In many states, such as Florida, foreclosures take a long time and if the homeowner is able to live mortgage free during that time, they can accrue a reasonable savings instead of robbing their retirement and facing the other issues associated with doing that. In the long-term, they may actually be better off financially.
They other option presented here is that they can withdraw money from their 401k plan to pay for the mortgage. This is a bad decision on numerous counts.
For starters, there are penalties for taking the money out prior to age 59 1/2. Then you still have to pay taxes on the withdrawals and that withdrawal could even send you into a higher tax bracket as well. So, while you may be taking out some money, you could be left with considerably less, maybe even less than half, of that amount for paying off your mortgage. If you do use it all for your mortgage, Uncle Sam may be knocking at your door in the near future and that will not be a good meeting.
Another problem with withdrawing from your 401k is that you are robbing from your retirement funds, robbing yourself to pay the bank. The time value of money shows that you will have to work much harder in the future, even just 5 years down the road, in order to undo what you have done.
Yet another problem with the 401k solution is whether or not you are simply delaying the inevitable. If you are not in a position to sell the property or refinance quickly, you may be throwing good money after bad and simply “wasting” it away.
Don’t get me wrong, I am not condoning walking away from your obligations, but rather showing you of these two choices, you need to really think about their consequences and look at the long term picture, not just current reality.
There also may be other options you have not thought of yet. Make sure you are thinking clearly and not during a “panicky” state or you will likely make the wrong choices. Clear minds and a thorough thought process are required to make the best decision(s) for you and your family.
I am sure that many of you have something to say about this topic, so please chime in.