Using Your IRA to Pay Off Credit Card Debt

Drowning in credit card bills can feel overwhelming with no way out, and you may be tempted to use your retirement savings to pay down your debt. However, that’s not a good idea, and you should think twice before you tap into your nest egg.

Using money from an individual retirement account (IRA) can have major consequences. Doing so depletes your savings, foregoes future capital gains, and can lead to serious tax implications. Consider alternatives before taking this extreme step to paying off your credit card balances.

Why You Shouldn’t Use Your IRA to Pay Off Credit Card Debt

If you have trouble dealing with your credit card debt, you’re not alone. According to the Federal Reserve, credit card balances in the U.S. reached $1.21 trillion at the end of the fourth quarter of 2024, which is an increase of $45 billion from the previous quarter. The average credit card balance per consumer was $6,380 at the end of September 2024.

Given their high interest rates and the impact your balances can have on your debt-to-income (DTI) ratio and your credit score, it may seem like there’s no way out. But you have options that do not include using your IRA, no matter how tempting it might be.

Reasons to avoid using your retirement account include:

• An IRA is meant to help you save for retirement. Raiding your nest egg means that you’re taking away money for future use.
• You’ll lose out on any future earnings. Not only does the principal balance in your IRA earn interest, but this interest also earns interest through compounding. This boosts your earnings even more. By taking money out, you don’t give your money a chance to grow.
• The government imposes fines and penalties on withdrawals from IRAs if they aren’t used for retirement.

What Are the Tax and Penalty Implications of Using Your IRA to Pay Off Credit Card Debt?

The point of having an IRA (or any other retirement account) is to help you save for retirement, so it shouldn’t be treated like a savings account. The government has put measures in place, including taxes, penalties, and age limits, to make them less attractive to use. The Internal Revenue Service (IRS) sets the age limit at 59½.

The taxes and penalties, though, depend on how old you are for traditional IRAs:

• If you are under 59½: Your withdrawal counts as gross income. This means it is taxed at your normal income tax rate at the federal and state levels. You also are responsible for paying an additional 10% penalty on that amount.
• If you are over 59½: There are no restrictions or penalties. Withdrawals made using pre-tax dollars may incur income taxes at your normal rate at the federal and state levels.

Roth IRA withdrawals are a little different. Contributions made in the year before you file your taxes can be withdrawn without incurring any taxes or penalties. That’s because they are after-tax contributions, so the IRS considers they were never made. Any earnings on those contributions, though, are taxed as ordinary income and may be subject to a 10% penalty if you haven’t held the account for five years, regardless of your age.

Say you’re 45 and plan to retire at 65. You decide to withdraw $10,000 from your traditional IRA to pay off your credit cards. Your account holds $25,000, leaving you with $15,000. Let’s assume that your federal tax rate is 22% and that your IRA will grow annually at 6%.

• You’ll owe $2,200 for federal income taxes and $1,000 for the 10% early withdrawal penalty. This leaves you with only $6,800 from your withdrawal. Keep in mind that we haven’t factored in state income taxes if applicable, so you may owe more.
• You stand to lose a little over $32,000 in earnings if you withdraw $10,000 at 45 and plan to retire at 65.

So remember: just because you can use your IRA doesn’t mean you should.

Alternatives to Using Your IRA to Pay Off Debt

Consider options other than your IRA if you want to pay off your credit card balance. Some of these alternatives may require you to do some work and have a good credit score, such as a debt consolidation loan or a balance transfer credit card. You may also want to think about taking a loan against your 401(k). Then there’s the last resort: bankruptcy.

Debt Consolidation

Debt consolidation involves taking out a personal loan to pay off all your existing credit card debt. If you qualify and are approved for the loan, the lender issues you a lump sum that you can use to pay off all your credit cards. You are only responsible for making a single payment to the new lender instead of to multiple card issuers. The terms of these loans tend to be more favorable—usually lower rates and a lower payment.

Balance Transfer Credit Card

Consider transferring your balances to another credit card, especially one with a lower interest rate. You may qualify for a new card that comes with intro offers, such as 0% interest on balance transfers for a certain period—usually from six to 21 months. In some cases, an existing credit card company may extend you favorable balance transfer terms if you have a good relationship with them. Keep in mind that most companies charge a fee, which is a percentage of the amount being transferred.

401(k) Loan

You can borrow against your 401(k) if you have one. Unlike a traditional loan, there is no credit check, and unlike some IRA withdrawals, this type of loan is tax-free. You can borrow up to $50,000 or 50% of your vested balance—whichever is less. You must apply for the loan through your plan administrator and repay the loan within five years. Interest is also due on the loan (usually at 1% to 2% above the prime rate) but is added to your 401(k) balance.

Filing for Bankruptcy

Bankruptcy always should be your last resort. It is filed through the federal court system by a trustee, a professional who oversees your affairs. People with a lot of credit card (and other unsecured) debt generally file for Chapter 7 bankruptcy. If you have any non-exempt assets with value, they are sold to pay off some of your creditors. If you have exempt items like furniture and clothing, your creditors won’t get paid. Remember, bankruptcy stays with you for up to 10 years.

The Bottom Line

Credit cards can help you pay for everyday purchases and emergencies. But they can be problematic if you overspend and/or don’t have the income to repay them. Paying off your troubling credit card debt should never be an excuse to raid your IRA. Doing so not only defeats the purpose of saving for retirement, but it also comes with hefty fines or penalties. Consider some of the alternatives, including debt consolidation loans, balance transfer cards, and loans against your 401(k). If all else fails and there is no other option left, talk to a financial advisor about bankruptcy.