Before Even Thinking About Retiring, Retire Your Debts

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By Nicholas Pell

NEW YORK -- As you close in on your retirement, consumer debt can really cramp your style.

"You're going to have a lot less stress and a lot more stability if you can retire your debt before you retire," said Gerri Detwiler, director of consumer education at

If you're unable to nip debt in the bud during your working years, you might spend years after retirement paying down your debts. Even worse, you might have to push retirement back so that you can pay off your outstanding debt.

But if you have some time left before you retire, you don't have to contemplate such doomsday scenarios. Instead, you just need to begin aggressively attacking your consumer debt. Here's how.

The Benefits of Paying Down Retirement Debt

Detweiler notes that there are two main benefits to paying down your retirement debt now. "It will give you more money in your budget, but it also gives you a sense of what you can really live off of," she says.

%VIRTUAL-pullquote-Paying off debt before retirement is the most prudent thing to do.%She points out that in retirement, your income is likely to drop. So getting used to living on less at this point in your life is a good exercise for when the day comes that you actually retire. "It will be less of an adjustment," she says.

"Paying off debt before retirement is the most prudent thing to do," says Ellie Kay, a family financial expert. "It leads to a higher quality of life, because you don't have the extra burden of consumer debt."

To underscore the importance of getting rid of your debt load before your golden years, it's essential to take stock of how much money you will need in retirement.

"The rule of thumb is that you need 70 percent of your income when you retire," says Detweiler. "But if you can live on less, you have more options. It doesn't necessarily have to be 70 percent of what you're earning today. If you can live on less than that, you have a lot more options in terms of when you can retire and how you can spend your money." So a happy accident of paying down your debt before retirement is that you end up retiring sooner than you think.

Should You Use Retirement Funds to Pay Off Debt?

Tapping your retirement funds to get rid of debt may not be the hottest idea out there. That's because if you're not yet 59.5 years old, withdrawals from your 401(k) account will get dinged at a 10 percent tax penalty. To boot, taking withdrawals from your 401(k) decreases the total pot and stunts the ability for the funds to grow with compound interest.

That said, if you can cut down on that crippling high-interest credit card debt, it may be worth your while to employ some of your retirement funds toward eliminating your debt.

"If you're really flush with retirement money and you can use it, that's fine," says Detweiler. "But most people who are looking at retirement with debt will want to preserve those savings for later."

Instead, she suggests that you begin your quest by meeting with a credit counselor. "Let's say you want to retire in three years and have a lot of debt, between $30,000 and $60,000," she says. "Just because you can't come up with a plan to become debt free doesn't mean they can't." She says that many people who are afraid they'll never be able to retire come up with workable plans after meeting with nonprofit credit counselors.

If you are still employed, one option, not without risk, is to take a loan from your employer-sponsored retirement plan. You can set up a repayment plan for three years or less without owing interest. The downside, of course, is that you won't be earning growth on that money in your 401(k) plan. Also, you will want to weigh how secure your position is: if you lose your job or leave the company voluntarily, you will have to repay your retirement plan loan quickly, sometimes within 90 days.

Kay suggests that one way to start working on retiring debt today is to have a family meeting and decide on a strategy. "Decide how you're going to pay it off, but be smart about it," she says. One proven method of retiring debt Kay recommends is the snowball method, where you pay off the card with the highest interest rate. Once you've handled that, roll the payment you'd previously allocated to the highest interest credit card over to the next card, then both payments to the third and so on. "You have more money available to attack your debt," she says.

Another method Kay recommends is paying forward any money you start saving in other areas. For example, she advises that people look at their insurance policies annually. Lower rates are generally available on an annual basis. If your insurer isn't offering them, shop around for one that will. If you save $300 a year on your car insurance, you can take that money and put it to work attacking your consumer debt.

You might also want to consider downsizing your life before retirement. "Selling your home and using equity to pay off debt and buy something cheaper can allow you to get into a lower-cost housing situation and retire some debt," she says. This, in turn, will give you the kind of financial flexibility that you're looking for when you think about retiring your debts.

Finally, Kay recommends that you attack your consumer debt in a strategic way that improves your credit score. That means lowering the balance on your most used cards for a bump in your FICO score. And while you might be tempted to put the balance onto a card with a low introductory rate, Kay cautions against that. "The problem is that you're going to take a hit on your credit, because every new card shortens your average credit history," she says. "It's a way to slowly but significantly deteriorate your FICO score if you keep rolling balances over.
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