Is it a Good Idea to Borrow From an IRA to Pay Off Debt?

by John Csiszar
IRA regulations discourage borrowing to pay off debt.

Technically, you can't borrow from an individual retirement account to pay off debt. However, a loophole in IRA regulations does allow for what amounts to a short-term loan from an IRA. Beyond that, you'd have to take a distribution from your IRA to get to your money. You should weigh the costs of accessing the money in your IRA to determine if it's a good idea to use it to pay off debt.

60-Day Rule

The IRA rollover provision effectively allows you to borrow from your IRA for up to 60 days. According to rollover rules, once per year you can take money out of an IRA and deposit it in a retirement plan within 60 days without having any tax consequences. The provision does not specify that you have to deposit the money in a different plan, so you can satisfy the requirements by re-depositing the money into your original IRA. During those 60 days, you can use the money for anything you please, including paying off debt. However, you'll have to come up with the same amount of money at the end of the 60-day period or face taxes and possible penalties.

Withdrawals

Generally, you should keep your money in your IRA until you retire unless you have an absolute emergency. Any money you take out of your IRA will be taxable, and if you're under age 59 1/2, you'll also pay a 10 percent early withdrawal penalty. Additionally, money you take out of your IRA will not be available to you when you need it in retirement. However, since you are in complete control of your IRA, you can take money out at any time to pay off your debt if you so desire. Since you can't borrow from an IRA for longer than the 60-day rollover period, a withdrawal may be a method of last resort.

Rollover to 401(k)

While you can't technically borrow from your IRA, you can convert it to an account you can borrow from if that is your intention. The IRS permits a tax-free rollover from your IRA to your employer's 401(k) plan, although you'd need the permission of your employer to do so. Most 401(k) plans allow loans of up to 50 percent of your account value, with repayment due over 5 years. While you'll have to check with your employer to see if it offers loans, from the perspective of the IRS you can roll over your IRA to your 401(k) and then borrow then money from your new plan.

Cost-Benefit Analysis

The primary reason for wanting to pay off debt is usually to avoid interest charges. If you can pay off your debt within 60 days and have a way to return the money to your IRA, that can be a cost-free way to use your IRA to pay off your debt. However, if you have to take a withdrawal, you'll have to judge if the taxes and possible penalties you'll pay outweigh the cost of carrying your debt. If you end up rolling your IRA to a 401(k) and taking out a loan, you'll have to pay interest on your 401(k) loan. You'll also lose some investment flexibility, as 401(k) plans typically have more limited investment options than an IRA.

About the Author

After receiving a Bachelor of Arts in English from UCLA, John Csiszar earned a Certified Financial Planner designation and served 18 years as an investment adviser. Csiszar has served as a technical writer for various financial firms and has extensive experience writing for online publications.

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