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Contribute to 401K versus beefing up emergency fund
Old 04-07-2015, 08:13 AM   #1
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Contribute to 401K versus beefing up emergency fund

My sister (mid-40s) called last night to tell me her DH is concerned he may lose his job at the end of the calendar year due to restructuring business units within his large company. She is a stay-at-home mom and so I asked her about their savings -- if they have enough emergency stash to pay the bills and feed the family for 8 months or more if it takes that long to find a new job. She thinks they realistically only have about 3 or 4 months of savings to pay the mortgage, insurance, etc.

She was thinking that her DH should stop contributing to his 401K over the next 6 or so months to beef up their emergency fund.
Which might be a good idea. But I was thinking that he should still contribute up to the match, which at his company is a 50% match on up to 6% of his salary. My rationale is:

- He could withdraw from his 401K all of this year's contributions and pay the 10% penalty and still come out ahead.

- He has some time to look for another job before the end of the calendar year (which a lot of folks don't get when they might be terminated).

- He might not lose his job at all and would have missed almost a year of contributions. His wife doesn't work, so he is the only retirement savings they have.

What would you advise your sister to do? She cannot work because their youngest is a disabled child that requires a lot of care.
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Old 04-07-2015, 08:33 AM   #2
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The savings up to the company match is not bad advice as long as they can also beef up the emergency fund.

If it's either-or then I would build the emergency fund. First they have a disabled child. Second the job loss is a risk.

Worst case they use that money for an emergency.

Best case they can divert some of it (say above 5 or 6 months) into longer term investments if they get the all-clear job wise.

Having some non-deferred savings may come in handy down the road especially with a disabled child (establish a trust for the child) among other things (desire to retire early).
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Old 04-07-2015, 09:09 AM   #3
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Dialing down his contributions to the match and diverting the remaining contributions to an emergency fund is a good idea given the precarious job situation especially if their income is within the range that they can do deductible IRA contributions since if he doesn't get laid off and has earnings for the whole year they could then manage their tax bill by making deductible IRA contributions instead.

Another idea would be to line up a HELOC now while he has employment income and tap into it if needed rather than withdraw from their tax-deferred funds and pay tax and early withdrawal penalties.
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Old 04-07-2015, 05:59 PM   #4
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Dialing down his contributions to the match and diverting the remaining contributions to an emergency fund is a good idea given the precarious job situation especially if their income is within the range that they can do deductible IRA contributions since if he doesn't get laid off and has earnings for the whole year they could then manage their tax bill by making deductible IRA contributions instead.

Another idea would be to line up a HELOC now while he has employment income and tap into it if needed rather than withdraw from their tax-deferred funds and pay tax and early withdrawal penalties.
Yes, what he said. That pretty much maximizes their options.

Hopefully all this will be not needed and he'll keep the job.
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Old 04-07-2015, 06:13 PM   #5
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- I would suggest that they contribute enough to get the full match in the company 401K. (6% = about 3 weeks worth of his pay. Probably not enough to make a material difference if he loses his job).
- After that, consider contributing to a Roth IRA (for both of them--it doesn't matter that she isn't working). Contributions (not earnings) to a Roth IRA can be withdrawn at any time with no penalty, so it's a pretty good substitute for an emergency fund in this case. With a Roth, they won't get the immediate tax deduction of a tIRA, but maybe that's not important to them or even especially beneficial compared to avoiding the tax later.
- Note: A "hardship withdrawal" from a 401K can be allowed by the IRS if it is to prevent foreclosure on a home. And the plan has to allow for it. More here. I would put that under "in extremis options."
+1 on the HELOC--and do it now.
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Old 04-07-2015, 06:41 PM   #6
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Actually I disagree about funding the 401(k) for the match.

In their position it isn't about maximizing return, it's about minimizing risk.

I went through a rather long period (to me) of unemployment during the dot.com bust and we did OK. But only because we had a hefty buffer to fall back on.

If your money runs out (even if only your "easily accessed money" runs out) life gets very scary. Well worth giving up a little bit of company matching money to avoid this.
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Old 04-07-2015, 06:45 PM   #7
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Oh, definitely suggest they set up a HELOC too. It's useful to have.

But they need to be CAREFUL with it.

I set one up back then. The bank guy was explaining the terms to me. It struck me that I could use those handy checks they provides to make the minimum payments for the account USING the account. I asked the guy "is that right". He said, "absolutely".

That's when I realized how easy it can be to dig yourself in really deep when life goes bad!
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Old 04-07-2015, 07:26 PM   #8
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Actually I disagree about funding the 401(k) for the match.....
There isn't a lot of risk especially if the person has been there long enough to be fully vested. They save $100 and get a 50% match so they now have $150. Even if they later have to cash it out and pay the 10% penalty and taxes they still have more than if they had foregone the match.
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Old 04-07-2015, 11:40 PM   #9
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There isn't a lot of risk especially if the person has been there long enough to be fully vested. They save $100 and get a 50% match so they now have $150. Even if they later have to cash it out and pay the 10% penalty and taxes they still have more than if they had foregone the match.

+1 on this.... do not lose any match for a short term problem that might never arise....

BTW, have them look at what loan provisions are available from the 401(k)... if he lost his job would he have to pay the loan back right away or could he send them monthly checks Again, even if he has to recognize the income and pay a penalty, he has more money at the end than if he did not contribute to the 401(k).... this is a no brainer to me....
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Old 04-08-2015, 06:49 AM   #10
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...or could he send them monthly checks ....
No, I don't think so.
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Old 04-08-2015, 02:12 PM   #11
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No, I don't think so.
I believe it matters what the plan says.... I think my last job allowed loans to be paid off after termination by sending in payments...
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Old 04-08-2015, 03:49 PM   #12
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I think you are right and it varies from plan to plan, but from a quick search it sounds like most plans require loans to be paid off either immediately or shortly after you leave, but that some plans might not have that requirement.

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If you quit working or change employers, the loan must be paid back right away. It's not uncommon for plans to require full repayment of a loan within 60 days of termination of employment. If you can't repay the loan, it is considered defaulted, and you will be taxed on the outstanding balance, including an early withdrawal penalty if you are not at least age 59 .
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