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Each stage of your life may create new financial challenges. Being faced with a need for greater cash than what you have on hand, may have you considering your options for alternative resources. This brief overview explains the common places to look for sources of cash for pressing needs, with considerations for the relative benefits and potential drawbacks of each option.
Developing effective strategies for achieving your goals within the limits of your particular financial circumstances can be difficult. Each stage of your life may create new financial challenges. Sending your child to college, remodeling your home, caring for an elderly relative, or starting your own business are objectives that may require a certain amount of capital, according to your needs.
Even when your overall financial situation appears to be positive, your available cash flow may be constrained. Should you be faced with a need for greater cash than what you have on hand, here are some alternatives you may want to consider:
You can take distributions from your traditional Individual Retirement Account (IRA) at any time. However, the full amount of your distribution will be subject to income tax. In addition, if you are under age 59½, your distributions may be subject to a 10% Federal income tax penalty. No tax penalties are incurred if early distributions are due to a qualifying exception, or if the withdrawal is part of a series of equal periodic payments based on your life expectancy. However, premature distributions may also hinder your ability to reach your retirement goals in the future.
Some employer-sponsored 401(k) plans allow participants to take an income tax-free loan from their accounts. Interest rates are generally comparable to those of commercial loans. But these loans are usually short term, and amounts not repaid on time are considered taxable withdrawals and could be subject to penalties. Should you leave the company, your employer may demand full repayment within 60 days, and you could owe taxes and penalties on the unpaid balance. In addition, as with IRA distributions, borrowing from your 401(k) can actually counter the plan’s ultimate purpose: building tax-deferred savings to help provide retirement income.
If you own a permanent life insurance policy, you may be able to borrow against the policy’s cash value. A policy loan is not a loan at all, but rather an advance of some of the cash value to which you, as policy owner, are entitled by contract. However, access to cash values through borrowing or partial surrenders can reduce the policy’s cash value and death benefit, can increase the chance that the policy will lapse, and may result in a tax liability if the policy is terminated before the death of the insured.
If you are a homeowner, you may be able to access the equity in your home through mortgages and equity loans. Although rates on such loans are traditionally low, it is important to keep in mind that, when you borrow against your home, you are pledging your house as collateral against the loan.
Should you be unable to repay the loan, the lender would have the right to force foreclosure, with the loan being repaid from the eventual sale of the property. So, you may want to avoid using such loans for “live-without” items, such as vacations, clothing, or jewelry.
Borrowing from a bank may be an alternative, if your credit history is good, you meet certain financial requirements, and your intended use of the borrowed funds is well-defined. Loans for education or start-up business expenses are fairly common. However, when considering loans from a bank, it is important to be sure you can meet the monthly loan payments.
The ever-increasing availability of credit card loans has resulted in a tempting, yet expensive, borrowing option. Credit cards can be a good source of quick cash when you are certain you are able to promptly repay the amount charged. But because credit card loans often carry high interest rates and finance charges, they can be expensive for longer-term debt.
Should you ever need to access one of these resources to meet a pressing cash need, it is important to weigh the relative benefits and potential drawbacks of each option to help determine the most appropriate course of action for your situation. Your financial advisor can also help give insight into your unique situation. Making a wise borrowing choice now may save you substantial time and money later.
