How can I use my retirement account as an emergency ATM?

Ralph
00:00:00

Are you feeling the financial squeeze? Perhaps you've been eyeing up that retirement account as a potential lifeline, but hold on a second. Before you tap into that nest egg, let's explore how to navigate this tricky terrain without getting stung by penalties and taxes. Today, I'm going to be exploring the fascinating world of using retirement accounts as an emergency ATM. Yes, you heard me right, an emergency ATM. And trust me, some of the stories I'm going to share might just surprise you.

Narrator
00:00:30

Welcome to the Ask Ralph podcast, where listening to an experienced financial professional with over 30 years of experience can help you make sense of confusing questions, current headlines and industry trends about taxes, small business, financial decision making, investment strategies, and even the art of proper budgeting. Ask Ralph makes the complex simple by sharing his real world knowledge from a Christian perspective with all things financial.

Now, here's your host, Ralph Estep Junior.

Ralph
00:00:59

Well, thank you for joining me today and sharing your valuable time. I'm going to talk about a topic that is close to our hearts and wallets. A lot of us have these retirement accounts, but today I'm going to talk about what you might need to do to use it in the event of an emergency. Well, let me talk about yesterday’s show. Yesterday, I talked about the top five things people do to stay wealthy, and here's a teaser: it’s more than just financial wealth. We discussed the many aspects of true wealth. So, if you missed it, I'm going to encourage you to go back and take a listen to it.

Now, today's question comes from a long-time listener. Her name is Virginia, and she asked a really relevant question today that many people face, and this is what she asked me. She said, "Hello, Ralph. I'm in a tight spot financially. My car broke down, and I'm facing a hefty repair bill. I've been considering dipping into my 401(k) to cover it, but I'm worried about penalties and taxes. Is there a way to use my retirement account without shooting myself in the foot? I'm losing sleep over this and I need your guidance."

Well, Virginia, let me start by saying thank you for your question. And listen, I get hefty repair bills. Let me tell you a little story. I guess I was about 19 or 20 years old, and I had this bright red Firebird. Yeah, a two-door car with T-tops. My dad had bought it for me when I was younger. I was driving down the road on a real cold day, and all of a sudden the car just stops running. And I’m thinking to myself, "What in the world is going on here?" So I get it to the side of the road, and we have it towed to the car dealership. And guess what—I’d seized the engine.

I didn’t even know what that meant, but then I found out how important oil changes are. And let me just tell you, I was very fortunate that my dad bailed me out because I didn’t have the cash to fix it. I think it was about $3,000. But it taught me a valuable lesson. And the truth is, many face these unexpected financial challenges, and it's tempting to tap into our retirement. But we really need to explore it, so we don’t compromise our future. Well again, Virginia, thank you for your question.

Remember, everybody, questions fuel the show. If you've got a question, go to justaskralph.com. And don’t forget, every Tuesday night (that includes tonight), I’m going live. That's right, you can catch the Ask Ralph podcast live, talking about real-time financial wisdom. You can ask your questions right there. If you're interested in joining us, just go to askralphpodcast.com/live. It starts every Tuesday night at 7:00 PM Eastern Time.

Well, Virginia, I was thinking about your question, and I thought, what is a good Bible verse to really address your question? I came up with this one from the book of Ecclesiastes. It’s from chapter 11, verse 2, and it tells us this: "Invest in seven ventures, yes, in eight; you do not know what disaster may come upon the land." Well, you know, I don’t think having a car break down is a disaster upon the land, but it might feel like it. And this verse really stresses the importance of diversification.

We need to plan for these unexpected expenses, and it’s a delicate balance, isn’t it? So let’s apply some wisdom to help you, Virginia, and share some ways that my clients have tackled this issue themselves.

Now, Virginia, let me start by saying I get the stress. I totally get it. Like I said, when I was about 19 or 20 years old, I seized the engine in my car, and car troubles are never fun. And no matter what it is, I don’t care what it is, it seems like it’s always got that hefty price tag. You might be asking, "Ralph, why shouldn’t I just tap into my retirement?" I want to share an analogy with you. I want you to think about your retirement like a garden. You plant that garden. You have nice clean rows.

I learned this from my grandfather. My grandfather was a gardener—a Southern gentleman—and he would take me out into the garden. We would spend half a day out there, and he’d lay out the rows. He actually put lines so the rows were nice and straight. We’d ready the ground, then plant those seeds. I remember he had a little seeder that we pushed along, and the little seed would drop in.

I thought that was the coolest thing when I was a kid. Then the seeder would fill the hole back up and pat it down. Well, your retirement is a lot like that. Each contribution you make into retirement is like putting a seed in that garden. You’re planting it for that future, for that bloom to come up later on. The problem is when you take out your money from that retirement early, you’re basically uprooting those seeds before they’ve fully been able to grow.

Now, you might have a little sprout at the top of the surface, but it’s certainly not the full plant that you’re expecting. And listen, I’m not saying that you should never touch your retirement plan. There may be legitimate reasons to do it, but there are also smart ways to do it. There are ways you can avoid those penalties and interest.

And I’m going to get to that shortly. But let’s talk about some alternatives before you go tapping into those retirement savings. Yes, the first thing I’m going to ask you about—you know, I talk about these all the time—is, do you have an emergency fund? If you had an emergency fund in this case, Virginia—and I’m not picking on you—but the truth of the matter is, if you had that emergency fund, you’d be able to use it here.

So, this is a great example of why you want to build one. You know, think of an emergency fund as a financial first-aid kit. It’s there when you need it. It doesn’t have those nasty side effects of tapping into retirement. Well, maybe you’re saying, "Ralph, that’s great. I’ve already exhausted my emergency funds. This repair was more than I could possibly have saved, and I don’t have any other options. So now, Ralph, how do I use my retirement account as an emergency ATM and, more importantly, still avoid those hefty penalties?"

Well, I’m not going to leave you out there on your own. I’ve got some ideas for you. The first one is this: this is one of the things you could consider. If you have a 401(k) plan, ask your employer or HR people if you can borrow from it. Because with that 401(k) plan, if they allow for borrowing, you’re just like borrowing from yourself. And you’re going to pay it back.

You’re going to pay it back with interest, but you’re paying it back to yourself. You’re paying that interest back to yourself. Now there’s a bit of a catch. Most of them have a five-year repayment clause. You’ve got to pay it back within five years. And you also have to watch out for this curveball. A lot of people don’t know about this one. If you leave or lose your job before you pay it back, you effectively get 60 days to pay back the full balance of that loan, or it becomes a taxable distribution. So think about that for a second. Maybe you lose your job or get laid off or something like that.

You've got 60 days to pay off that balance. Well, if you take out a $10,000 or $20,000 loan, maybe it's great that you're paying it back, but now you've effectively got 60 days to scramble to do it. If you've lost your job, how are you going to pay it back? So here's the problem with that: it's not only taxable income to you, but if you're less than 59 and a half, you get hit with that 10% penalty as well.

So that's one option—you could look at 401(k) loans again, if your company allows them. Another thing you could look at is tapping into your Roth IRA. Now here's the thing you could do—you could withdraw Roth contributions. Now, you can't withdraw the earnings. But with Roth contributions, you can take those out any time.

There's no penalty or taxes because, listen, you paid those taxes upfront. That's what we talk about when you make an investment in a Roth account—it's with after-tax money, and this could be a great backup emergency fund. But remember this: you're still taking those seeds from the garden. You're still robbing yourself.

I know that's a strong term to use, but you are. You're uprooting those seeds before they can fully mature. Well, let's talk about the third thing a lot of plans allow you to do—what's called a hardship withdrawal. I did a whole show about that, and I'll put a link in the show notes about it. Like I said, some plans allow these for specific hardships. It's not just the feeling of, "You know, I'm really feeling pinched right now."

That’s not going to fly most of the time. It's for major life events. I'm not going to get into those on today’s show, but you can go listen to that show where I covered it before. The benefit of this is you don’t get hit with that 10% penalty, but it's still income to you. So you're still going to owe taxes on the money. And again, going back to the garden—we’re uprooting those seeds before they can fully mature. So, you’ve got to be careful about that plan as well.

Now, another thing you could do—number four on my list here—is what's called the Rule of 55. I did a show maybe about two weeks ago, and I'll put a link to that show in the notes as well. This one is specific to being 55 or older.

You can take that money out penalty-free, but there are some specific rules. This is definitely one where you want to talk to a professional—talk to a tax pro like me—so you understand what you can do. Now, Virginia, I came up with this one—it’s number five on my list, but I think it might be a great idea for you—and that’s what's called the 60-day rollover rule. This is an IRS provision that allows you to withdraw and place the money back.

So basically what you could do is, you could take a distribution—let's say your total repair bill is like $5,000. You go to your IRA or 401(k) and take that $5,000 distribution. Then what happens is the clock starts ticking, and you've got 60 days to put that money back in. Think about it—it’s like a short-term interest-free loan. But here’s the thing you better understand from the front end: you better have a plan to repay it.

Maybe you're thinking, "I’m going to get a more traditional loan, but I need this money right away." If you don't repay it, it's going to trigger that tax issue. And there are some important caveats to this: you can only do this once in 12 months, and like I said, that 60 days is strict. I actually had an IRS audit this is probably 20 years ago where the client had missed it by one day, and the IRS was stoic on this. They would not budge on it. So, you’ve got to check your plan rules to see if they allow this, and you really need to sit down with somebody. Speak to a professional because you need careful planning and execution on this, but it could be a valuable tool in an emergency. Now listen, if you haven’t heard me clearly already, the first thing I think you should try to do is tap into that emergency fund.

Maybe even hit a credit card if you have to, but it’s always a better option for those unexpected expenses. Because remember, we talked about this garden—this is your retirement garden. You want it to bloom; you want it to come into full bloom. You’ve got to allow it to grow. Now, I promised you I would share some stories from clients and what they've done over the years.

So let me share a couple of those with you. The first one, I’ll call him John. John's a small business owner, and he had his own business with this big client, and his big client wasn’t paying him on time. They were stretching out his receivables—60, 90, 120 days.

The problem was, this was a major client for John, and it presented this immediate cash crisis: payroll to meet, overhead costs. Now, in John's case, he had what’s called a solo 401(k). So he was actually able to take a distribution from his solo 401(k) and loan it to his company. That gave him access to the funds.

He kept the money in the retirement plan, and that way he didn’t have to take a distribution. It was secured with the business assets. So basically, his 401(k) plan made a loan to his business. And I’ve had several clients that have used these, not just for emergencies, but you can also fund a new business through it. Let me tell you about another client I had.

Her name is Maria, and Maria lost her job. Now, Maria was one of those people who always put aside money. But she lost her job, and this presented a huge emergency. She sat down with me, and we thought about what we could possibly do to solve this problem. I thought about this thing called substantially equal periodic payments.

It’s called an SEPP. And again, this is in the weeds of things that you can do, so you want to make sure you talk to a professional. This is not some DIY project—you’ve got to get pro help with this. But it allows you to access your IRA before retirement with no penalties. Now, it is a complex strategy, and like I said, it requires careful planning. You want to speak to an expert, but it gave her that steady income during her unemployment. So, you might be asking, "Ralph, what are the key takeaways?" You’re telling me I’ve got this huge bill for this emergency repair, I’ve got this retirement money that I could hit, but you've talked to me about all kinds of things. I think my key takeaway today—you need to listen to—is this: you've got to have careful planning in this. You’ve got to seek out expert guidance. Yes, you can use your retirement funds in an emergency, but you've got to think about this is going to derail those long-term financial goals.

Are you going to uproot that retirement garden to solve that immediate problem? And you’ve got to be careful that you don’t create a bigger one. Think about it for a second—address the immediate issue that you have, but look to preserve that long-term financial health. That’s really my key takeaway today. And Virginia, I understand the pressure you’re under. It’s tough when you get that call from the auto mechanic, and they tell you, "Yeah, your bill’s going to be $2,900 or $4,900." You weren’t expecting that.

Maybe you're living paycheck to paycheck. You feel like you’re constantly playing cheque catch-up, and it’s exhausting. I get it. But you’re not alone in that battle. A lot of people are feeling overwhelmed. We are living in tough economic times. I’ve got to say it—we’re all faced with these unexpected expenses. Maybe there are business challenges like John had, with that client that wasn’t paying him. Or maybe you’re sitting there saying, "Ralph, I just want to break free from financial bondage." Well, I’ve got something you can do.

You can schedule a call with me, and I’ll create a personalized plan for you. Just go to askralph.com, and you’ll see a button there that says, "Book a Call with Ralph." And that’s the start of the process. We’ll work together to create a future for you. Because here’s the secret—financial emergencies don’t need to keep you up at night. Put those worries to rest. I’ll meet with you.

We’ll do that initial call, and we’ll talk about what your current situation is. You’ve got to start there. We’ve got to understand where you are. Then we’ll devise a plan. We’ll look at your goals. We’ll look at what I call your big, hairy, audacious goals. And then we’ll put together that personalized plan that balances your faith and your finances, because that’s what I’m bringing to the table. And then we’ll follow up and look at some accountability.

We’ll measure how we’re doing. Maybe we’ll tweak it in some areas. You might be saying, "Ralph, what are some immediate action steps I can take right now?" The first thing I’m going to tell you is: don’t panic. It’s so easy when you get that call, and you’ve got that unexpected expense, to just go off the rails and panic. You’ve got to take stock of your overall financial situation.

Look at that snapshot. I call that, you know, your overall financial "selfie." Look at your retirement account options—it’s not a terrible thing to do—but you’ve got to understand the types of withdrawals or loans that are available to you in a case of emergency. You should know those things.

The second takeaway: If you haven’t done it, start or boost your emergency fund. You should be aiming for three to six months of expenses. You might be saying, "Ralph, how in the world do I get to that?" Start small. Even $10 a week can help you get to that goal, but you really need to be aiming for three to six months' worth of expenses.

And if you lose your job or if you’ve got that unexpected repair bill or something that comes up—hey, listen, we all have these bumps in the road. A couple of weeks ago, the plumber came out, and he said to me, "Your instant hot water heater is fried. You need to get a new one," and bang—$3,500 out the door. We all have those things. And then the third thing I’m going to tell you to do is explore alternative funding sources for emergencies. Maybe that’s low-interest personal loans or negotiating payment plans with creditors.

A lot of these places will have creditor options now. I’ve got to be honest with you—many times, you're going to pay a higher interest rate. But you’ve got to compare that interest rate to what the cost would be if you tapped into your retirement plan. I started—probably a lot of people saw the name of the episode today and thought, "What is Ralph talking about? Tapping an ATM?" But think about it—you’ve got to think about the long-term because you're uprooting your garden. We talked about that analogy. We talked about how your retirement is truly that garden. I can still see my grandfather and me out there laying out those rows and putting those seeds in.

And I remember, as a kid, how excited I was when the tomato plants started popping up, and the pepper plants. And then all of a sudden, the peppers would get bigger and bigger. And that was so cool. Well, think about it with your retirement. If you don’t let those seeds grow and mature, you’ll never get to reap those benefits. And remember this—my passion is to help you achieve your financial goals and achieve financial success. I want to see you live out your dreams. I want to see you live out those big, hairy, audacious goals. And at the same time, I want to see you grow in your faith because I know, working together, you know—book that call with me—and let me come alongside and coach you and make it easier for you.

I know that by working together, we can master your finances from a Christian perspective. And don’t forget to tune in tomorrow—we’ll be discussing the nine riskiest places to give your Social Security number. And trust me, some of these are going to surprise you, but you’d be surprised how many people just hand over that number and say, "Here’s my Social Security number—no problem."

So make sure you tune in tomorrow. As I always end the show, I want to encourage you to stay financially savvy and put to work the things we talk about. And may God bless you abundantly.

Narrator
00:18:17

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