Economy Archives - Page 5 of 5

Should I Get A 401k Loan Or Do An Early Withdrawal To Help Us Through Tough Times?

Times are tough in the U.S. and more people than ever are finding themselves in tough situations where they've lost a job and haven't been able to find something new. Unemployment is hovering around 10%, although true unemployment is probably much higher as some people have just stopped looking.

As people go further without finding something new, many of them are having to find new ways to get money to keep the lights on. One of those places people are looking is their retirement accounts. CNN reports that 401k hardship withdrawals and 401k loans are at the highest level in 10 years:

Hardship withdrawals from 401(k) retirement saving plans rose to the highest level in 10 years during the second quarter, Fidelity Investments said on Friday, in the latest sign of a dismal economy.

Fidelity reported that, as of the second quarter, 2.2% of all 401(k) participants had made a hardship withdrawal at some point over the preceding 12 months. That's up from 2% in the prior year, and was the highest level in 10 years.

At the same time, the percentage of 401(k) participants that had an outstanding loan from their account rose to a record high of 22% in the second quarter. The average loan amount was $8,650 at the end of the quarter.

So more and more people are using their 401k accounts as a backup plan to be used when times are tough. But should they?

Early Withdrawals – Things To Consider

So what are some of the things that need to be considered when taking an early withdrawal from your 401k?

10% Early Withdrawal Penalty: When you take money out of your 401k before you turn 59 1/2, your withdrawals will be subject to a 10% penalty unless you meet certain withdrawal criteria. That's a pretty big chunk off the top!
State and Federal Taxes: Your early withdrawal will be subject to state and federal taxes which means that after the 10% penalty and taxes your withdrawal could be left with only about 60% of the total before you're done.
Short Circuiting Retirement Gains: When you withdraw from your retirement accounts, you'll be foregoing the gains you might have made on that money.

So when it comes down to it, if you take an early withdrawal you'll be losing up to 40% of the money right off the top due to taxes and penalties. That's a lot of money to give up!

401k Loans – Things To Consider

401k loans are being used now more than ever to pay off debt, pay bills and pay for other wants and needs.

Usually you can borrow up to 50% of your vested account balance or $50,000, whichever is less. You usually have a maximum of five years to repay the loan, unless you are borrowing for a first home, which allows a longer payback.

But there are things you need to consider.

401k Loans May Require Repayment Immediately If You Move Jobs Or Are Fired: These are uncertain times, and we never know what might happen tomorrow. What if you leave or lose your job before the loan is paid back? You will be obligated to pay it back immediately (although many plans offer a 60-90 day grace period) or suffer the fees and penalties associated with a 401k withdrawal. As mentioned above there is a 10% penalty, and federal and state taxes are taken out as well. In this situation you may be better off taking out a loan at a bank to repay the loan – and avoid those penalties.
If Your Stocks Are Down, You Can't Regain Losses: If you withdrew your money when the market was down, you won't be able to regain those losses when the market goes back up.
You Pay Interest To Yourself: One positive point about 401k loans is that you're paying interest to yourself, and not a big bank somewhere.

Conclusion

Personally I think that doing a 401k loan, or doing an early withdrawal from your account is hardly ever a good idea. I think it should only be used as a complete last resort. The downsides – including penalties, short circuiting gains and having to repay the loan immediately if you leave the job (when you can probably least afford it) are just too big.

What do you think about 401k loans? Are they ever a good idea, and would you take one out – or have you? Tell us your thoughts in the comments!

Tax Implications Of Strategically Defaulting On Your Underwater Mortgage

By Mr. Money Leave a Comment

A while back I wrote about how millions of homeowners are finding themselves underwater in their mortgage. In other words, they are finding that they owe more on their home than it is currently worth. It's frustrating to have to pay more on your home than you could get for it if you sold, and many are deciding that their best option might just be to strategically default on their mortgage. Why keep paying if your home isn't worth what you thought it was? Why throw good money after bad?

There is a heated debate as to whether strategically defaulting is OK to do morally, but plenty of people are accepting it as a viable alternative. For those that decide to go down that road, are they considering all the implications?

Tax Implications Of A Strategic Default

One thing a lot of people don't realize is that if you strategically default on your home mortgage, and the bank forecloses, you may be liable for the taxes on your forgiven debt.

In many states, any part of a mortgage that the bank forgives is reported as taxable income.

In some states, you’re off the tax hook if the bank forecloses on your original mortgage. But you could still be taxed on a home equity loan or a loan you refinanced.You’ve probably heard that the government has temporarily stopped taxing people who lose or give up their homes. That’s the Mortgage Forgiveness Debt Relief Act (otherwise known as “The Don’t Kick ‘Em When They’re Down Act”). But it doesn’t apply to every mortgage. You can be foreclosed and get a tax bill, too.

The majority of people going through foreclosure have no choice. They can’t afford the payments any more. But a growing number of homeowners are choosing “strategic default.” They’re not broke. They owe more than the house is worth and decide to stop throwing good money after bad. Many considerations come into the default decision — moral, reputational, financial, credit-score, and what the kids will think. Taxes matter, too

So if you default on your mortgage loan, even though you're able to pay the bank – and the bank forgives part of your loan, you could be getting a big tax bill.

You’re generally taxed on debt that a lender forgives. For example, say that you default on a $350,000 first-mortgage loan. The bank sells the property for $250,000. If the bank has the right to pursue you for the remaining $100,000 but doesn’t, that “forgiven” amount is taxed to you. States with these rules are called “recourse” states.

The Debt Relief law wipes out the taxes due, but only for certain types of loans.

In some states — called “non-recourse” states — a bank that forecloses generally does not have the right to chase you for additional money. As a result, the unpaid debt ($100,000, in this example) is not taxed as income. You get away scot free.

So which states are non-recourse states where you'll be off the hook for taxes?

Non-Recourse States: Alaska, Arizona, California, Connecticut, Florida, Idaho, Minnesota, North Carolina, North Dakota, Texas, Utah, Washington.

In other states you may be liable for taxes due if the bank forgives part of your principle balance after selling your property.

Other situations in which you won't be liable for taxes due include when you are bankrupt or insolvent.

Tax Forgiveness On Forgiven Debt Doesn't Cover All Loans

There is an asterisk on the tax free status for the non-recourse states. The tax free laws only cover three types of loans:

The original mortgage from when you bought or built the home
The balance of the original mortgage at the time you refinanced.
A cash-out refinancing or home equity loan when the proceeds were used to improve the home.

If you borrowed against your home in order to pay off a credit card, or to buy a car for example, you will be liable for taxes on those amounts.

If you do have part of your mortgage balance forgiven, the bank will issue you a 1099 for taxable income, which you can use when filing your taxes.

What do you think about the tax implications of strategically defaulting on your mortgage? Do you think most people consider that they may have to pay taxes on the forgiven amount of debt? Tell us your thoughts in the comments!

Credit Card Companies Find New Ways To Take Your Money After Passage Of CARD Act Of 2009

By Mr. Money 2 Comments

Earlier this year in February 2010, Credit Card Accountability, Responsibility and Disclosure Act (CARD) of 2009 took effect. The law was supposed to be a a consumer friendly piece of legislation that aimed to put some limits on what the credit card companies could do in regards to charging exorbitant fees, upping interest rates with no reason, in the end was supposed to force them to be more transparent with their customers.

For a few months at least the outcomes seemed to be headed in the right direction, but now the credit card companies have started finding new ways to make up their lost revenues.

Credit Card Companies Find Revenue In New Places

Even though they have been forced to stop some controversial billing practices due to the 2009 CARD act, the credit card companies seem to still be one step ahead of the law. They've found new ways to make money:

Whomever President Barack Obama taps to head the new Bureau of Consumer Financial Protection could find it difficult to keep ahead of the credit-card industry … some of the biggest card issuers in the U.S., including Citigroup Inc., J.P. Morgan Chase & Co. and Discover Financial Services, are already rolling out a slew of fees designed to recapture some of their lost income, in part by skirting the new rules. Some banks may even be violating the law outright, say consumer advocates.

“Card companies are figuring out how to replace old fees with new ones,” says Victor Stango, an associate economist with the Federal Reserve Bank of Chicago and a professor at the University of California, Davis, who has been analyzing how the Card Act will affect consumer banking. “It's a race between regulators writing ever-more-complex laws and credit-card companies setting up ever-more-complex fees.”

The banks have a big gap to fill. The Card Act is expected to wipe out about $390 million a year in fee revenue, according to David Robertson, the publisher of industry newsletter Nilson Report. On July 16, during its second-quarter earnings call with analysts, Bank of America Corp. Chief Financial Officer Charles Noski warned that the Card Act and other regulatory changes would prompt the bank, the nation's largest in assets, to write off up to $10 billion in the third quarter.

“If you have every major issuer saying that we are losing our shirt, then that speaks volumes,” Mr. Robertson says. “Proportionately, these fees should be understood as almost inconsequential compared to the losses.”

So the banks are getting aggressive. According to a July 22 report from Pew Charitable Trusts, a nonpartisan research group, the industry's median annual fee on bank credit cards jumped 18% to $59 between July 2009 and March 2010. At credit unions, annual fees soared 67% to $25. During the same period, the median cash-advance and balance-transfer fees jumped by 33%.

The credit card companies are losing a ton of revenue because of the new laws, and now they're doing what they can to make up those revenues. They're charging higher annual fees for the cards, cash advance and balance transfer fees are going up and credit unions have had to raise their rates.

All of these increases are perfectly legal, of course. Banks and other issuers would have a difficult time extending credit to consumers, even at high interest rates, if they couldn't augment those revenues with fee income. “We're coming out of a deep recession that issuers are still working through,” says Peter Garuccio, a spokesman for the American Bankers Association.

We understand that the banks have to make money. But some of the banks are going a bit too far, and are doing things that are now illegal, or at least a bit iffy – under the 2009 credit card law.

some banks may be going too far. In a July 7 letter to the Office of the Comptroller of the Currency, which regulates many of the biggest U.S. banks, a coalition of consumer groups including the National Consumer Law Center, the Consumer Federation of America and Consumer Action flagged several “potential violations of the Credit Card Act.”

Other banks are ramping up their marketing of so-called professional cards. These are like corporate cards but can carry the same terms as consumer cards—and aren't covered under the new law. In the first quarter of this year, issuers sent out 47 million professional-card offers to U.S. households, up from 13.2 million in the corresponding period last year, according to research firm Synovate.

“This can be a very easy way around the Card Act,” says Josh Frank, a senior researcher at the Center for Responsible Lending, a consumer group.

The upshot: Borrowers must be more vigilant than ever—even before they make their first charge on a new credit card.

Other Ways To Get Revenue

Other things that the banks have been doing that seem the skirt the edge of legal and illegal?

Playing fast and loose with late payment fees and payment deadlines: the Card Act stipulates that late-payment fees shouldn't be triggered on a Sunday or holiday, when there is no mail delivery, however, some banks are saying that because they accept payments 7 days a week online, that they are in compliance with the Card act.
Rebate cards allow banks to jack up rates: These types of credit cards find the credit card companies offering to refund up to 70% of finance charges if a customer pays on time. Problem is that rebate offers aren't governed by the Card act, so the companies can revoke the card or hit the cardholder with high charges at any time.
Shortening the billing cycle: Despite the requirement of the Card act that companies provide a window of at least 21 days from when a statement is mailed to when a payment is due, some consumers are alleging that their billing cycles have been shortened to fewer than 21 days.

Credit Card Companies Aren't Your Friend. Be Wary.

Credit card companies are for profit entities, and as such they're usually going to find as many ways as they can, and as many instruments as they can to make money. The credit card companies are not your friend, and if you think they've got your best interests in mind, you've got another think coming. They only want to get their hands on as much of your money as they can.

When signing up for a credit card, remember that if it isn't used correctly, it can lead you down a road to debt, bankruptcy and foreclosure – so be careful. And remember, the best way to live is to live with a cash only mindset!

What do you think about the new ways the credit card companies are trying to make money? Does it surprise you? Is it to be expected? Tell us your thoughts in the comments.

Unemployment Benefits Extended And Are Available Again For Up To 99 Weeks

By Mr. Money 1 Comment

In early June millions of people who were without a job ran out of jobless benefits as congress failed to push back the deadline for people to apply for unemployment. It is estimated that over 2 million people have had their benefits lapse.

Unemployment Benefits Law Passed

Today President Obama signed an extension of the unemployment package meaning many people will once again be eligible for benefits.

From CNN Money:

Millions of jobless Americans are getting their unemployment benefits back.

Hours after the House voted Thursday to push back the deadline to file for extended unemployment benefits until the end of November, President Obama signed the measure into law.

The approval came a day after the Senate voted 59 to 39 to restore the payments, ending a seven-week stalemate.

Benefits will now be available again for up to 99 weeks for some unemployed persons:

Federal unemployment payments, which last up to 73 weeks, kick in after the state-funded 26 weeks of coverage expire. These federal benefits are divided into tiers, and the jobless must apply each time they move into a new tier.

The payments will be retroactive to the previous deadline of June 2. But it could take up to a month for states to start sending the checks again, experts said.

Benefits May Be Delayed

Even though the benefits have now been extended, many people may not receive their extended unemployment checks for weeks to come.

even if a final bill is approved soon, it could take weeks for workers to collect benefits that they have missed since the extensions started phasing out, said Judy Conti, federal advocacy coordinator with the National Employment Law Project, a New York-based advocate for workers' rights.

“Even the best states will probably have a week or so of lag time, and it wouldn't surprise me if in some states the lag time were a month,” Conti said.

Conti said she expects workers to receive backed-up benefits in lump-sum distributions, rather than in dribs and drabs.

Personally I don't mind that people collect unemployment benefits, after all we all may end up losing a job one day and need some help. But now that we have unemployment benefits for almost 2 years, I think it's a bit much. If you can't find a job in 2 years, you're either not trying hard enough, or turning down jobs that aren't “up to your standards”. Time for some new job search strategies!

What do you think? Should the benefits have been extended? Are the benefits becoming too much, and continuing for too long? Tell us your thoughts.

Bush Tax Cuts Set To Expire In 2011. Will You Be Paying More?

By Mr. Money 19 Comments

One thing that hasn't received very much notice lately I think is the fact that at the end of 2010, the 2001 Bush tax cuts will be expiring for all taxpayers. If you remember, the tax cuts were across the board for all taxpayers, meaning if they aren't renewed, all of us who pay taxes will be seeing an increase in our taxes next year.

Thankfully for many of us Obama has declared that he wants to renew the tax cuts for all taxpayers making less than $250,000 a year.

Obama wants tax breaks proposed by President George W. Bush to expire this year. His budget would eliminate tax breaks on those making more than $250,000 a year, a move almost certain to be opposed by Republicans and perhaps some Democrats as the economy crawls out of the recession.

“We extend middle-class tax cuts in this budget,” Obama said Monday at the White House, but “we will not continue costly tax cuts for oil companies, investment fund managers, and those making over $250,000 a year. We just can't afford it.”

While that's all fine and good, the tax cuts haven't been extended yet, and some are wondering if in the end they actually will be.

To prepare you for either scenario, here's a graphic from springfieldnewssun.com showing what everyone's tax rates will be if all tax cuts expire, along with if only the tax cuts for those making less than $250,000 (joint) are extended. Personally, I hope they're extended.

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