If you need cash fast, you may be wondering what your best options are. Before going into debt, start by evaluating your existing accounts.
Here, experts weigh the pros and cons of operating the most common account types.
First and foremost: use your emergency fund
As you probably know, it helps to have a rainy day fund with several months of saved expenses. It is your financial support and the first place to turn to if you need money.
“Your emergency fund is for times like this,” says financial advisor Amy Shepard of Sensible Money in Arizona. “There is no penalty or negative impact for withdrawing” this money, as long as you keep it in a standard or high-interest online savings account.
Unfortunately, too few Americans have the savings to meet an unexpected expense. According to data from Bankrate, only 41% have enough money set aside to meet a $1,000 emergency, and 28% have no emergency savings at all.
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If you don’t have cash savings, creating an emergency fund should be your financial priority once you’re in a more comfortable position financially, says Niv Persaud, Certified Financial Planner and Managing Director of Transition Planning & Guidance, based in Georgia. .
“Promise yourself that you have to build up your emergency reserve,” she says. An easy way to start is to take your tax refund and save most or all of it. Or you can set up automatic transfers from your paycheck to divert money to a savings account bit by bit.
If you don’t have an emergency fund, here are the pros and cons of operating other accounts.
Certificates of Deposit (CDs)
- Benefits: CDs can hold a fair amount of savings and some have penalty-free withdrawal options.
- The inconvenients: Penalties may apply, depending on your financial institution.
If you have money in the form of CDs or certificates of deposit, the good news is that you may be able to withdraw some or all of that money if you need it. But the bad news is that you may have to pay a penalty.
CDs lock up your money for a set period of time, usually a year or two, in exchange for a higher interest rate than you would receive in a savings account. Banks will charge you a penalty for early withdrawal, usually charged in number of days of interest, although some offer penalty-free options. Check the terms and conditions of your CDs.
Health Savings Accounts (HSA)
- Benefits: You can make withdrawals without penalty if you plan your purchases carefully or use the money for eligible expenses.
- The inconvenients: If you spend money on ineligible expenses, you may have to pay taxes and pay a penalty.
The advantage of having a Health Savings Account (HSA) is that you can withdraw funds at any time, without penalty, if you spend them on eligible expenses.
The downside, however, is that if you don’t intend to spend what you withdraw on qualifying expenses, your withdrawals will be taxed as ordinary income and the IRS may impose a 20% penalty on you. Due to heavy penalties and taxes, experts recommend that you avoid dipping into your HSA — or Financial Savings Account (FSA) — even if you need the money.
“I’m not a fan of having your HSA withdrawn” for non-qualifying ordinary expenses, Persaud says, because that money is better spent on health or medical expenses, where you’ll get the most bang for your buck.
Short-term investment accounts
- Benefits: By selling your short-term investments, you may be able to get your hands on some quick cash.
- The inconvenients: You can cripple your long-term financial goals and increase your tax liability.
Check to see if you have money in a short-term investment or brokerage account, as opposed to your 401(k) or individual retirement accounts or other long-term savings. You could try to sell securities and withdraw the funds. “But be aware of capital gains and tax implications,” Shepard says.
If you earned a return on your short-term investments, you may have to pay tax on the money you earned. The amount you owe will largely depend on how long you hold the investment.
If you hold a taxable investment for less than a year, you will pay short-term capital gains rates, which are the same as your normal tax rate. If you’ve held this investment longer, what you’ll owe may be 0%, 15%, or 20%, depending on your tax bracket. And if you’ve lost money on your investments, you may be able to reduce your tax burden through a process called “tax loss harvesting.”
If your most immediate concern is getting your hands on cash, Shepard says having short-term investments in a “brokerage account comes second only to emergency savings” in terms of priority for your withdrawals. Beware, however, that selling in a bear market could well mean locking in a loss. This is partly why experts advise you to invest for the long term, so that your investments have time to rebound.
Retirement accounts are your “absolute last resort”
- Benefits: You may be able to withdraw money, without penalty, under the right circumstances.
- The inconvenients: You could face penalties, taxes and prevent you from achieving your long-term financial goals.
Under President Trump’s $2 trillion stimulus package, consumers will be able to withdraw up to $100,000 from their retirement accounts, without penalty.
But experts say try to avoid dipping into your retirement accounts, like a 401(k) or an IRA, at all costs. Shepard says retirement accounts should be your “absolute last resort” if you find yourself in financial difficulty.
You are effectively borrowing from your future self. In other words, withdrawing money now sets you back because those funds will have no chance to grow and accumulate over time.
Normally, withdrawing money from your retirement accounts means you incur a 10% penalty (if you’re under 59.5) and taxes, although there are a few exceptions you should be aware of. It is possible to lend you money from your 401(k) for a large expense, such as a down payment for a house. You can also make a hardship withdrawal if your situation meets certain criteria, but you will be taxed on the distributions.
And if you have a Roth IRA, you can withdraw your initial contribution penalty and tax-free if it’s been at least five years since then. Income from this contribution, however, cannot be withdrawn until retirement.
But if you’re in serious financial trouble, Shepard says using credit in the most responsible way possible to help you out may be your best bet. However, she says, start by tapping into those cash savings you should have set aside for a rainy day or focus on building up those savings as soon as you can.
Persaud agrees: “Really focus on building that emergency fund.”
The article The pros and cons of tapping into savings accounts for quick cash originally appeared on Grow By Acorns + CNBC.