Your retirement account is a critical nest egg. It’s money specifically set aside to ensure you can handle your bills and live comfortably after you leave the workforce. Making it a crucial resource. However, when large expenses, like extensive medical bills, are hanging over your head. It may be tempting to tap your retirement account to handle the obligations. If you are wondering whether you should tap retirement funds for medical expenses. Here’s what you need to know.
Can You Use Retirement Funds for Medical Expenses?
Yes, you can potentially use retirement funds to handle medical expenses. In fact, it’s one of the few instances where you can possibly withdraw money without being slapped with an early withdrawal penalty from the IRS.
Usually, these are referred to as hardship withdrawals from 401(k)s and IRAs. Typically, you need to have an immediate and significant financial need that falls into a qualifying category to make this kind of withdrawal. Medical bills are potentially a qualifying expense.
Additionally, to avoid the early withdrawal penalty. You would have to make the withdrawal during the same year you incurred the medical debt. Also, the total of the unreimbursed medical expenses would have to be more than 7.5 percent of your adjusted gross income (AGI). If either of those conditions isn’t met. You’ll have to pay the 10 percent early withdrawal penalty.
It’s also important to note that certain retirement plans may prevent or limit hardship withdrawals. If you’re using an employer-sponsored retirement program, you’ll need to contact the program administrator to see what options may be available. For IRAs, you’ll need to reach out to the financial institution overseeing the plan.
Could a Creditor Seize Your Retirement Account If You Have Unpaid Medical Bills?
Some people consider using retirement accounts to pay medical bills merely because they believe the institution they owe could seize those funds anyway. As a result, they withdraw the cash to make the payments, assuming that using that money for that purpose is practically inevitable. However, that isn’t universally the case, as some accounts are shielded from this kind of seizure.
Whether your retirement account is protected from creditors depends on the type of account involved. Generally speaking, creditors can’t seize your employer-sponsored retirement accounts even if you have unpaid medical bills and owe them substantial amounts of money.
Employer-sponsored retirement accounts – including pensions and 401(k)s – are typically shielded from this kind of seizure due to federal laws governing the matter. The only exception there tends to be if you owe money to the government, such as back taxes.
For traditional or Roth IRA, the situation is blurrier. You can exempt a certain amount of traditional or Roth IRA savings during bankruptcy proceedings, per federal law, but that’s really the only concrete protection available at the federal level.
However, your IRA may be protected by state laws. Since those rules can vary, you’d have to check locally to see what protections are available and if they apply to your situation.
Should You Tap Your Retirement Account to Pay Medical Bills?
Whether you should tap your retirement account to handle medical expenses is ultimately a personal decision. But, in many cases, it may be wise to explore alternatives first.
For example, many hospitals and medical facilities will set up repayment plans, often without interest charges. They may also have programs for low-income households that could eliminate some or all of the debt right off of the top, which could be worth exploring.
You may also have access to financing. For example, a 401(k) loan may be a better option in the long-run. With that, you borrow against your account instead of actually making a withdrawal.
If you’re in dire financial straights due to medical debt, you may even want to consider bankruptcy. While the ramifications are certainly substantial, you could potentially eliminate any medical debt while protecting some or all of your retirement savings.
Ultimately, the choice of how to proceed is yours. Just understand that you may have options available that you’ve yet to explore, so don’t default to making the withdrawal. Instead, see which paths are potentially available first. Then, select the one that’s genuinely right for you.
Do you think people should tap retirement funds for medical expenses? If so, do you feel it was a wise decision? Share your thoughts in the comments below.
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Tamila McDonald has worked as a Financial Advisor for the military for past 13 years. She has taught Personal Financial classes on every subject from credit, to life insurance, as well as all other aspects of financial management. Mrs. McDonald is a former AFCPE Accredited Financial Counselor and has helped her clients to meet their short-term and long-term financial goals.