Q. My emergency fund is tapped out, what's the best order for me to get more funds from my other savings?
A. If you are out of job or furloughed for a prolonged period of time or have big health care expenses, and you are cash strapped, you might be tempted to run up credit card debt, but here are other options you should explore first:
1. Home equity line of credit (HELOC)
With HELOC, you can borrow up to your limit whenever you need the money, and interest rates are low. However, with HELOC, lenders will look at your credit score, the amount of equity you have in your home, and your income. If you are unemployed, it's difficult to qualify for a loan.
2. Reverse Mortgage
If you are age 62 or older, you can turn your home equity into cash. But, unlike HELOC, you don't have to repay the loan as long as you live in your home. The most popular type of reverse mortgage is the Home Equity Conversion Mortgage (HECM), which is insured by the federal government. You can take out a reverse mortgage as a lump sum, monthly payment, or a line of credit. The line of credit may offer the most flexibility, and if you don't use it, the untapped credit line will grow as if you were paying interest on the balance.
3. Roth IRA
Roth IRA is a low cost source of funds, because you can always withdraw the amount of your contributions tax and penalty free. The money comes out first.
4. Taxable Accounts
You don't have to pay any early withdrawal penalty when you take out money here.
5. 401(k)
If you or family members are diagnosed with COVID-19 or have suffered adverse financial consequences because of the pandemic, you can borrow up to $100,000 from your 401(k). The interest rate on 401(k) loan is low and you usually have 5 years to repay the loan. If you are unable to repay the loan within the repayment period, it will be treated as a distribution which means you will owe tax and if you are younger than 59.5, penalty on any unpaid balance.
6. Life Insurance Cash Value
A permanent life insurance policy has two components: the death benefit and cash value. Cash value is a tax-advantaged savings account funded by a portion of your premiums. You can withdraw your basis in cash value account tax free. You can also borrow against your policy, you will pay from 6% to 8%, depending on market rates and whether the loan is fixed or variable, if you don't repay the loan, or pay back only part of it, the balance will be deducted from your death benefit when you die.
7. Retirement Savings Account Withdrawal
Withdrawal from your 401(k) or Traditional IRA should be the last resort, because you must pay tax and early withdrawal penalty if you are younger than 59.5 (or 55 if you leave your job and take a withdrawal from your 401(k) account). The stimulus package in 2020 now allows you to withdraw money from your traditional IRA or employer-provided retirement plan without paying the 10% penalty. You will still owe tax on the money, but the law allows you to spread the tax bill over 3 years.
8. HSA Account
You can use money in your HSA for a variety of medical expenses that are not covered by insurance. If you lose your job, you can use money from HSA to pay premiums under COBRA.
9. 529 Account
The penalty for withdrawals from 529 plans are not as severe as they are for other tax-advantaged accounts. The earnings will be taxed, plus 10% penalty on the earings.
A. If you are out of job or furloughed for a prolonged period of time or have big health care expenses, and you are cash strapped, you might be tempted to run up credit card debt, but here are other options you should explore first:
1. Home equity line of credit (HELOC)
With HELOC, you can borrow up to your limit whenever you need the money, and interest rates are low. However, with HELOC, lenders will look at your credit score, the amount of equity you have in your home, and your income. If you are unemployed, it's difficult to qualify for a loan.
2. Reverse Mortgage
If you are age 62 or older, you can turn your home equity into cash. But, unlike HELOC, you don't have to repay the loan as long as you live in your home. The most popular type of reverse mortgage is the Home Equity Conversion Mortgage (HECM), which is insured by the federal government. You can take out a reverse mortgage as a lump sum, monthly payment, or a line of credit. The line of credit may offer the most flexibility, and if you don't use it, the untapped credit line will grow as if you were paying interest on the balance.
3. Roth IRA
Roth IRA is a low cost source of funds, because you can always withdraw the amount of your contributions tax and penalty free. The money comes out first.
4. Taxable Accounts
You don't have to pay any early withdrawal penalty when you take out money here.
5. 401(k)
If you or family members are diagnosed with COVID-19 or have suffered adverse financial consequences because of the pandemic, you can borrow up to $100,000 from your 401(k). The interest rate on 401(k) loan is low and you usually have 5 years to repay the loan. If you are unable to repay the loan within the repayment period, it will be treated as a distribution which means you will owe tax and if you are younger than 59.5, penalty on any unpaid balance.
6. Life Insurance Cash Value
A permanent life insurance policy has two components: the death benefit and cash value. Cash value is a tax-advantaged savings account funded by a portion of your premiums. You can withdraw your basis in cash value account tax free. You can also borrow against your policy, you will pay from 6% to 8%, depending on market rates and whether the loan is fixed or variable, if you don't repay the loan, or pay back only part of it, the balance will be deducted from your death benefit when you die.
7. Retirement Savings Account Withdrawal
Withdrawal from your 401(k) or Traditional IRA should be the last resort, because you must pay tax and early withdrawal penalty if you are younger than 59.5 (or 55 if you leave your job and take a withdrawal from your 401(k) account). The stimulus package in 2020 now allows you to withdraw money from your traditional IRA or employer-provided retirement plan without paying the 10% penalty. You will still owe tax on the money, but the law allows you to spread the tax bill over 3 years.
8. HSA Account
You can use money in your HSA for a variety of medical expenses that are not covered by insurance. If you lose your job, you can use money from HSA to pay premiums under COBRA.
9. 529 Account
The penalty for withdrawals from 529 plans are not as severe as they are for other tax-advantaged accounts. The earnings will be taxed, plus 10% penalty on the earings.
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