Need cash? Here are 10 sources of income—from your family to perhaps your 401(k) plan.
Photo: Joan Wong; Photos: GettyWith millions out of work and struggling to pay bills, lots of people don’t know where to turn to find the money they need to cover day-to-day expenses and large unexpected costs, like medical bills.
Many immediately think of tapping their retirement savings, such as 401(k)s and IRAs, something that generally isn’t advisable. The Cares Act does make it more enticing, allowing qualifying individuals to withdraw as much as $100,000 this year without the early-distribution penalty. The act also makes taxes paid on the distribution recoverable under certain circumstances. Still, experts generally advise against early withdrawals from retirement funds.
People who need cash now may have several options that don’t involve tapping their retirement money. Each has pros and cons, and should be considered after exhausting other avenues, such as unemployment benefits, if available, reducing expenses, and working with banks, credit-card companies and utilities on flexible payment plans and more-favorable interest rates, if applicable, says Tracy Green, a planning and life-events specialist at Wells Fargo Advisors.
What the best strategy is for you depends also on whether your cash crunch is going to be a long one, or more of a short-term blip. “Depending on the answer, it could be a different course of action,” Ms. Green says.
Here are several options to consider, and the pros and cons.
1. Borrow from family
This strategy is a short-term fix without tax ramifications. It comes without a credit check, and there is little or no interest to pay. A family member who lends you money also is likely to show flexibility with repayment, if it’s even necessary, according to the American Institute of Certified Public Accountants.
Some parents like to know how their money is being spent while they are alive, so it could be deemed an upfront inheritance, says Patrick Simasko, elder-law attorney and wealth-preservation specialist at Simasko Law in Mount Clemens, Mich. Of course, this won’t be a good option for parents who aren’t financially secure, and parents have to be careful that they don’t become their children’s bank for all future needs.
Also, if there’s a chance the parent would need to go into a nursing home and tap Medicaid within five years, there can be complications. When parents lend their children money, it’s treated as an asset for Medicaid. The money has to be repaid if the parents attempt to tap into Medicaid. If it’s a gift to the child and the parents tap into Medicaid within a five-year period, the money would still need to be repaid, Mr. Simasko says.
2. Short-term savings accounts
When a financial difficulty is likely to be short-lived, short-term savings might be enough. Bank savings accounts, money-market accounts and certificates of deposit are all potential options to draw from, and there won’t be tax consequences since it’s after-tax money. Just know there may be restrictions on the number of withdrawals you can make in a month. Also, some CDs have penalties for early withdrawals.
3. ‘529’ Plans
Some parents might consider pulling from a 529 savings plan if they’re in a financial tight spot. But if they do, they’ll lose out on tax-deferred growth. In addition, the earnings portion of a nonqualified 529 distribution is subject to ordinary income tax and a 10% penalty except in limited cases, according to Ms. Green of Wells Fargo Advisors.
Even so, it’s probably better than taking money out of a retirement account, because it’s easier to get help for education through loans, grants and scholarships, she says.
4. Retirement accounts
There can be situations when tapping an individual retirement account might be necessary—for a home down payment, medical expenses or higher-education expenses, Ms. Green says. This year, investors have some more flexibility to tap into their IRA or certain workplace retirement plans through pandemic-related relief offered by the Cares Act.
People facing pandemic-related hardships whose biggest available source of cash is their 401(k) will likely be tempted to take some of that money before retirement, either in the form of a loan (payable back to themselves), if available, or a withdrawal.
Keep in mind that you pay tax on withdrawals, though the tax can be recovered if you pay back the distribution within three years. There are also tax ramifications if you don’t pay back a loan according to the loan terms. And 401(k) loans have rigid repayment schedules.
Also, it can be difficult to replenish funds over a retirement of 30-plus years. Other sources of funding may not be so readily available in those years.
“I would caution anyone to only take the minimum they need, not the max that is allowed by the new rules,” says Craig R. Erickson, partner at Wiss & Co, an accounting and business growth advisory firm in Florham Park, N.J.
5. Annuities
Some annuities allow a partial withdrawal each year—generally 5% or 10% of principal—without incurring a penalty from the insurance company, says Paul Tyler, chief marketing officer for Nassau Financial Group in Hartford, Conn., a provider of insurance, reinsurance and asset management through affiliates. But be forewarned: Annuity owners younger than 59½ will likely incur an IRS penalty. The details are in the contract, Mr. Tyler says.
6. Life-insurance policies
A permanent life-insurance policy with sufficient cash value can also be a quick source of cash.
Withdrawals can be possible, but are taxed as ordinary income. Other caveats: Some contracts may not allow the money to be returned; there may be limits on how much can be returned in a year; and surrender charges may apply.
Another option is a loan against the cash value of the policy. Here, borrowers won’t have to undergo a lengthy application process, there’s no credit check and it won’t affect their credit score, Mr. Tyler says. Generally the rates on these loans are less than for a bank loan, often in the 6% to 7% range, he says. While repayment is usually optional, interest will continue to accrue and the policy owner’s beneficiaries won’t receive the full death benefit unless the loan is repaid in full. In addition, the policy owner could owe tax if the policy lapses before repayment, Mr. Tyler says.
7. Home-equity line of credit or loan
These options can be attractive—especially with interest rates so low. With a line of credit, borrowers withdraw money as they need it, up to a certain amount. These loans often have a floating interest rate, and borrowers generally have 10 to 20 years to pay back the money. A home-equity loan, by contrast, is a one-time lump-sum loan that often comes with a fixed interest rate.
Factors homeowners need to consider include their home’s value, how much they owe, closing costs, prepayment penalties and whether they are comfortable putting up their home as collateral. When homeowners are parents of college students, it’s important to note that any unspent proceeds from a home-equity loan are counted as an asset on the Free Application for Federal Student Aid, or Fafsa—the government’s form for financial aid—which can reduce a student’s eligibility for need-based aid.
8. Credit card
For most people, this option is less desirable because the rates are so high, and it could hurt your credit score, says Mr. Simasko, the attorney. But for people who are really stuck, the card might be a good option because later it might be possible to negotiate a settlement with the credit-card company. This option could send people further down the rabbit hole, but it also could be a better option than, say, tapping retirement accounts because most credit-card debt can be discharged during bankruptcy.
9. Margin loans
Shareholders who have margin loans might be able to borrow against their value. Some brokers are offering margin loans as low as a 0.75% annual percentage rate, according to data from Interactive Brokers LLC, a Greenwich, Conn., brokerage firm. There is risk. For example, if the value of the investor’s brokerage account declines below a certain level, the investor must deposit more cash or securities, or the broker will be required to start liquidating securities in the account.
10. Social Security
People who have reached their full retirement age can start taking Social Security benefits and request a lump-sum distribution, providing them with up to six months of benefits payments at once. The trade-off is their monthly benefit will decrease to what they would have gotten had they applied for the benefit six months earlier, says Mr. Tyler of Nassau Financial.
This strategy won’t be ideal for those who expect to live a long life, because they’ll receive diminished payments over the long term, he says.
Ms. Winokur Munk is a writer in West Orange, N.J. She can be reached at reports@wsj.com.
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