Retirement > 401(k)s & IRAs
Divorce, debt and a 401(k)
July 20, 2000: 11:46 a.m. ET

Here's a plan of attack when you're saddled with financial obligations
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NEW YORK (CNNfn) - If you've gone through a divorce and a heated custody battle, you may be faced with overwhelming bills. What do you do if you've got a tax tab, a 401(k) loan and credit card debt?

In response to a reader's question, Scott Kahan, a certified financial planner from New York and a member of the Financial Planning Association, laid out a step-by-step plan of attack for knocking down debt without hurting your nest egg.

Ask the experts a question.

My fiance has struggled with a divorce and several custody battles before losing her job just recently. This has left her with $15,000 in credit card bills, an $11,000 vehicle, a house worth $110,000 with about $4,000 in equity, and a 401(k) with $18,000.

She has an $8,000 loan outstanding on her 401(k) that is now due as a result of her recent termination. The question is: what is her first step, if we can assume that she will be able to make about $27,000 a year on her next job that has a 401(k) plan?

The first thing to deal with is the 401(k) issue. If the loan is not paid off she will owe the 10 percent penalty plus tax. If she is in the 15 percent tax bracket, she could owe as much as $2,000 in taxes and penalties, depending upon her deductions. More could be due if her state taxes the distribution as well. If she chooses to pay it off, the borrowing cost for the $8,000 may be expensive and drag on.

Normally, I would encourage someone to pay off the 401(k) loan, however, this may be one of those times that the money should not be repaid. It may be easier to raise the $2,000.

You did not mention the interest rate on the credit card. If it is a high rate, she should try to lower the rate if possible; Some credit card companies are willing to do this. Many introductory rates can start low, but you need to be careful as to pitfalls or tricks that could lead to a higher rate quickly.

She should try to save some with the new 401(k). She should draft a careful budget that allows for paying down the credit card and saving in the 401(k) plan, even a small amount.

Also, she may want to roll over the remainder of the 401(k) into an IRA rollover account and invest it wisely. Back to top


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Financial Planning Association

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