We’ve all experienced it. Things are moving along and then we are suddenly hit with a financial emergency. It could be a car repair, hospital visit, foundation issue, you name it. These things don’t qualify as a “regular, monthly” expense, but they need to be paid. If you have several types of accounts available to do, where do you go first? Do you get money from your retirement account if you don’t have enough in savings? On this page, I will give you the best order to follow to retrieve funds. I’ll also give you my reasoning for the order I selected. I will be going in order starting with the first place to get funds and leading to the last place you want to go. I’m assuming you are not over age 59 ½ by providing the order below. If you are over age 59 ½, then you can bump the IRA accounts up since you won’t be penalized for accessing them. Let’s get started…
1) Savings/Money Market account
I’m starting here because I’m assuming you don’t have enough in your checking account to cover your emergency. The reason you start here is because you are probably already using these accounts to cover emergency expenses anyway. Why not use it for the very reason it exists? There is no penalty for accessing these funds(as long as you don’t withdraw too many times within the statement cycle) unlike a CD or IRA. These funds are liquid and easily accessible through your bank or online banking account or ATM. You also aren’t missing out on interest earnings since there’s a 99% chance your interest rate on these accounts is less than the current inflation rate.
2) Permanent Life Insurance Cash Value Loan
Not everyone has this, but I wanted to include it here in case you did. These funds are easily accessible through an ACH transfer request or a visit to your local office(if they can cut you a check). There is no penalty for getting a loan, but you do start to accrue interest that works against you. However, the interest rate is likely less than the interest rate on anything else you may have. You can also pay the account back on your own terms. You aren’t required to pay X dollars back per month for a certain number of months. You can pay it back whenever you feel like it. Keep in mind that there is still interest accumulating against you for as long as there is a balance remaining on the funds you withdrew. The primary reason I rank this higher than a HELOC is because the interest rate is probably lower and you don’t have a required minimum payment on a balance. *You may also have the option to withdraw only the dividends from the policy and not need to pay anything back.
3) HELOC
Hopefully you already have one of these in place, because they take anywhere from 2-6 weeks to get going if you need to apply for one AFTER you have an emergency. If you already have one, accessing money is extremely easy. You can write a check straight off the HELOC, transfer to your checking through online banking, use the linked ATM card, or withdraw directly from your bank. If you do withdraw funds, you’ll start to pay a minimum monthly payment to pay the loan back. Withdrawing from an existing HELOC doesn’t impact your credit score. You also don’t have to explain to your bank why you’re withdrawing money. Once you have it, you have it. These are usually good for 5-20 years, depending on the lender. If you have one of these that has a promotional rate(like 0% for the first 6 months) then I would rate this one higher than life insurance because you pay less interest over time. You would need to keep an eye on the promotional rate period coming to an end. You may find out the hard way that the rate went up when your monthly payment skyrockets.
4) Retail investment account
I’d probably bump this one up to #3 if we are in a high rate environment(like we are in early 2024). I say this because if you took funds out of this account, the only real loss you have is what’s called “Opportunity Cost,” which is a hypothetical amount based on the rate of return you could have made if you left the money in the account. For example, if you withdrew $10,000 from this account for a year, and your rate of return for that same period was 8%, then your “cost” was the $800 you could have made if you left the $10,000 alone. The odds of you missing out on at least the equivalent of the current “Prime Rate” isn’t that good. As of this writing, you would need to earn 8.5-10% just to break even compared to withdrawing from a HELOC. If the interest rates are what they were in 2021, then moving this investment account lower than a HELOC is a no-brainer. That being said, retail investment accounts are accounts that have no special tax advantages like an IRA. You can withdraw from them without a penalty and get funds within a few days. You may even be able to withdraw from a poorly performing investment and take a deduction on your taxes for the year. Otherwise, your gain in the account that you withdraw is taxed either as ordinary income or at the capital gains tax rate, depending on your situation. You won’t need to pay anything back into the account if you withdraw since it isn’t a loan. I rank this one lower than a HELOC in most cases because of the “opportunity cost” that I defined above.
*The next few accounts will have varying rules and interest rates depending on the company you use, so the order I would place them in would depend on those factors. I am making assumptions below based on what I generally see in my industry.
5) Personal Loan
An unsecured personal loan, sometimes called a Signature Loan, is available as an option if your credit score and debt-to-income score is within limits. Some banks, especially online banks, process these very quickly and may even be able to get you funds on the same day as your application. There will be a loan processing fee and an interest rate that will cost you to utilize this option. Most loans will have a 1-5 year term, and the rate will be higher on these loans than on a HELOC or auto loan because there isn’t any collateral. On a plus side, this option can improve your credit score assuming you make all your monthly payments on time. You will have a hard credit inquiry anytime you apply for a loan. The hard inquiry initially reduces your credit score by a few points but the payment history will more than make up for that later.
6) Loan against your 401k
You must currently be employed with the company who offered the 401k in order for this option to work. If you left a previous job but never did anything with the old 401k, then the withdrawal options only include a rollover or a straight withdrawal. If you are still employed at the company, you can look into the rules concerning getting a loan against the 401k. The rules will vary on this option, so I may not always rank it here depending on your specifics, but this is generally where I would put it. There is probably a processing fee of some kind, plus the “opportunity cost” that I define in #4, plus the interest rate of the loan all working against you. So, hypothetically, you might borrow $10,000 from your 401k to cover a need, but you may need to pay back $12,000 to payoff the loan with all the extra costs. *You need to check the interest rate on these. If you need 3 years to pay off the loan and the rate here is 1/3 of what it would be for a personal loan, then do a cost-comparison to see if you should consider this option instead of a personal loan.
7) Credit Card
I rank credit cards here because of the typical interest rates. They are usually north of 20%, which is higher than almost every other type of loan. Even with the lack of a fee for swiping your card and getting funds, that benefit may be offset by interest alone. However, if you need quick funds and can pay them back in under a year, this may be a better option than #5 and #6, but you’d need to consider all fees and interest together. Sometimes you can get the benefit of a credit card perk, such as cash back or reward points, that can make these a more attractive option for an emergency. Obviously, if your emergency involves you being stranded somewhere and a credit card is your best, immediate option, then use it. If you have a few days to get funds, I’d consider many things before credit cards.
8) 10% free withdrawal from an annuity
Most annuities allow you to withdraw 10% of the account balance per year without a penalty, depending on your age. That is a decent option if it’s available to you. If you go past 10%, the penalties plus tax can be pretty steep.
9) Retirement account (IRA, 401k, 403b, etc.)
The big question with this option is your current age. If you are going to be penalized 10% by the IRS for withdrawing funds, then keep this option last. Some companies also take out 20% for taxes up front, so you’d potentially be out 30% before you see a dime. Yes, some of it can be recovered later during tax filing season, but it still isn’t a good idea to take that money out of your retirement account and lose the possible gain in addition to the loss for the withdrawal. That’s a double whammy for these accounts. If you are past minimum retirement age(59.5 as of this writing) then you can bump this option up to #4 or #5 on the list.
10) Title Loan
Don’t use this option. I have been a banker for a long time, and each time I’ve seen one title loan transaction on a person’s account, I’ve also seen others. They are never stand-alone transactions. The rates and fees are so high that you’ll be trapped in an endless cycle of payments that will be extremely difficult to escape.
· Some other honorable mentions that I am not able to rank
1) Family/Friend/Church – Always an option, but it really depends on your circumstances. If you borrow money from any of these, it can negatively affect the relationship, and that may not be worth it. However, there are circumstances where everything works out great. Only you can answer that question.
2) GoFundMe – I’ve seen this come in handy many times, especially in a sudden death or health emergency situation.
3) Cashing in an annuity or life insurance policy – I generally would not recommend this, but circumstances may warrant this being a good fit. Talk with your advisor/agent and be sure you know all the penalties/loss of coverage/etc. that are involved before exercising this option. Never exercise this option because a finance guru you heard on tv told you to do it. That person does NOT know your circumstances, and not all policies/annuities are bad, regardless of what they tell you. You need to speak to someone who knows your situation and can correctly advise you. (In case you’re thinking, “But what about the advice YOU are giving me?” To that I say I always recommend speaking to an advisor who knows your situation before taking general advice online. My goal here is to give general advice based on what I’ve seen and encourage you to get educated and make an informed decision. I am a coach, not an enforcer.)
4) Cashing in a CD that hasn’t matured – This may or may not be a good idea depending on how steep the fee is to withdraw funds outside of maturity. If the fee is minimal then this would be a good option.
