Why You Should Avoid Opening Your 401(k) To Pay For Your Divorce

A 401(k) exists to help you prepare for retirement. Raiding it early can mean disaster down the road, which is why we — and most financial advisers — will always recommend that you avoid opening it up at all costs. Most Americans have nothing saved for retirement, and many more are in a consistent state of crushing debt, which could wreak havoc on our economy in future decades. If you can be ready, then be ready.

Divorce results in many unforeseen costs and expenditures. You should prepare to be surprised when you venture down that road. It can save a lot of time and money to try to keep the relationship whole by spending money on therapy or counseling. If the relationship is unsalvageable, then of course the best option is parting ways. 

Most people don’t recognize how exactly the federal government taxes those who withdraw funds from their 401(k) before retirement age. But the government penalizes those who make this choice regardless. 

For example, let’s say you withdraw about $100,000 from your 401(k) with zero idea of the ramifications. You need the money for rent, groceries, shutting up your children, etc. But after taxes, you’ll only end up with half that money! That means any employer contributions — and probably many of your own — will go to waste.

There are other, more reasonable options you can take instead.

Sometimes, it’s possible to take a loan and use the 401(k) as collateral. Money obtained from these types of loans is quick and easy. The entire process can take only a few days. Best of all, interest rates are usually lower than those of your favorite pieces of plastic. Not such a bad deal, right?

Still, you would lose some of the growth of your 401(k) by taking out the loan. The most serious consideration when taking out such a loan is job security. Lose your job while the loan is active, and more than likely you’ll be forced to pay it back in about two months — which doesn’t bode well for the rest of your 401(k) funds. 

Before making consequential decisions — i.e. those that are final — be sure to speak with a financial adviser about all your options. It’s also worth checking with your divorce attorney, who probably has a lot of experience answering all the questions you’ll have on the subject anyway. 

Divorce can be an extremely stressful event, especially when two parties disagree. There’s no reason to make the proceedings even more stressful by wringing yourself dry (of money). So be careful. Take some time to explore those options before you make any decision.