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Should You Use Your IRA to Pay Off Debt?


If you’re unemployed or having financial difficulties and you’ve run out of money in your checking or savings account to pay off your debts, you may be thinking about using the funds in your Individual Retirement Account (IRA), but is it a good idea?

You have debt. Perhaps it’s credit cards, an auto loan or two, a student loan, a mortgage, or medical bills, or all the above. You don’t have the income or funds in savings to get caught up, so now your IRA is looking like a good alternative. If you’re considering using your IRA to pay off debt, please don’t!

Why it’s Wise to Avoid the Temptation

It can be very tempting for debtors to tap into their IRA to pay off debt, but it comes at a hefty price. Ask any financial expert or bankruptcy attorney and they’ll tell you that taking money out of an IRA to pay off debt is a bad idea, a very bad idea. Why? For starters, you face outrageous penalties and taxes for early withdrawal. You see, when someone uses their retirement funds for something other than retirement, it comes at a big cost.

When money is taken out of an IRA early, which is before the account holder is 59 ½, it has to be transferred to another retirement account within 60 days so it can be counted as a nontaxable rollover. If this doesn’t happen, the government assesses heavy penalties and taxes. In addition to IRAs, 401(k)s also come with heavy taxes and penalties for early withdrawals.

IRAs Are Protected in Bankruptcy!

If you’re being crushed by debt, bankruptcy may be the smarter option and we have good news: IRAs are protected in bankruptcy. If you choose to file Chapter 7 or Chapter 13 bankruptcy, the funds in your IRA would be protected under the Bankruptcy Abuse Prevention and Consumer Protection Act (BAPCPA).

“While federal bankruptcy laws have long protected 401(k) plans, pensions and similar employer-sponsored, qualified retirement plans, IRAs only came under federal protection with the enactment of BAPCPA. Among a wide variety of bankruptcy reforms, including heightened requirements for filing bankruptcy under Chapter 7, BAPCPA introduced the first explicit federal bankruptcy protections for assets held in IRAs,” according to Investopedia.