Is it ever a good idea to use retirement accounts to fund projects? My husband and I recently retired, and we need some financial advice. We're both artists, and we'd like to convert our garage into a studio. The projected cost is $10,000.00. Should we use funds from our CDs or tap into our 401(k)s?
Bear in mind that a 401(k) account contains tax-deferred savings, whereas CDs (Certificates of Deposit) are usually funded with after-tax dollars. In practical terms this means that you won't need to withdraw as much money if you use your CDs. Why? Because you've already paid at least part of the tax on these taxable investments. As a result, the money will go farther. That's not to mention that CDs are designed to function as short-term investments. CD terms may vary from ninety days to six months to five years so that it actually makes more sense to use them as a source of ready cash. Just remember that CDs carry a surrender penalty – usually six months of interest – for an early withdrawal.
If, on the other hand, you withdraw funds from your 401(k), you'll have to pay income taxes on them. This can translate into a lot of extra expense. If you take money from a traditional 401(k), you will actually have to withdraw almost $15,000.00 in order to end up with a net amount of $10,000.00 (that's assuming you are in the 28 percent tax bracket for federal and 5 percent for state). By comparison, if you use money from a taxable account, such as a mutual fund or a CD, you'll use up less principal by withdrawing only what you need.
For additional help and information on this topic, we'd encourage you to consult the resources and referrals highlighted below. Or if you have relationship concerns and challenges associated with this situation, please don't hesitate to give our Counseling department a call.
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