#3Save for emergencies.

To keep from dipping into long-term investments or borrowing at unattractive rates when you need cash in a hurry, create an emergency savings fund that can cover at least three months of essential living expenses such as rent or mortgage, utilities, food, and transportation.

Where to keep your emergency fund

  • Checking or savings account. Your money is immediately available and is FDIC-insured. Seek out high-yield accounts to make the most of your cash.1
  • Money market funds. These funds typically pay more than bank accounts. While money market funds are considered to be a relatively stable investment, they are not FDIC-insured, and it’s possible to lose money invested in a fund.
  • A home equity line of credit may also be used as a backup. You can borrow against the line when you need to, and you may be able to deduct your interest payments from your taxable income.2 However, it should be used with caution: Borrow only if you’ve built substantial equity in your home and continue to be employed.
An emergency fund helps you avoid these expensive alternatives.
Withdraw 401(k) money before you’re eligible   Pay early withdrawal penalties (10% or more)
Live off credit cards   Pay 13% interest or more
Postpone monthly payments   Pay late penalties, damage credit rating
Sell stocks or mutual funds   Lose money if it’s a bad time in the market

Make it happen.

  • Calculate the money you’ll need for three months of essential expenses.
  • Use our budget planner to decide how much you can save each month.
  • Use our savings calculator to set a time frame for reaching your goal.
  • Set up a savings plan with automatic deductions from your paycheck.

Have questions?

Can I borrow from my 401(k)?

Schwab’s response would generally be “No!” Your retirement account is a crucial component of your long-term financial plan. However, in an emergency, and with a lot of caveats, it can make sense. If you understand and follow the stringent rules for 401(k) borrowing and you are extremely confident you can pay the money back in a timely fashion, this might be a choice to consider. But beware; think carefully before you leap.

Understand the terms.

  • Typically, you can borrow up to 50% of your vested 401(k) balance up to a maximum of $50,000. (Note: Some plans have different rules.)
  • The interest rate you’ll be charged may be quite low, perhaps 5%.
  • You’ll most likely have to pay the money back within five years. (An aside: If you’re borrowing to buy a home, you have longer to repay the loan—but that’s a different story.)

You’ll also need to understand the procedures for paying the money back; generally, you do so through an automatic payroll deduction. Of course, you’ll be paying the interest to yourself, which is a good thing.

Understand the risks.

  • When you repay the loan, you’re using after-tax dollars, thereby forfeiting the tax advantage of a 401(k) plan. Then you’ll have to pay tax again when you eventually withdraw the money in retirement, so you’re in effect subject to double taxation.
  • You’ll miss out on the investment potential of the money you borrow. That might not seem too dire in today’s environment, but if the markets start growing while you’re paying the money back, you might miss some real opportunities for growth.
  • Some plans will not allow you to contribute while you have an outstanding loan, which could mean forfeiting a company match. Check with your plan administrator.
  • If you lose your job, you have to repay the loan in full, usually within 90 days, or the loan is treated like a distribution, which means the full amount will be subject to income tax and a 10% early withdrawal penalty (assuming you’re under age 59½).

These are very real risks, so before you embark on this path, make sure you understand them. The last one is particularly important: If you think there’s any chance of losing your job, the consequences could be disastrous.

What about a 60-day emergency loan from an IRA?

Unlike a 401(k), an IRA doesn’t have a loan provision, but you can access money from your IRA for a 60-day period with what is considered a tax-free rollover. This essentially means you can withdraw money from your IRA tax- and penalty-free as long as you put it back into the same or a different IRA within 60 days.

  • The IRS is very particular about timing—60 days is the absolute limit and it starts on the day you receive your money, no exceptions. If you don’t put the money back into an IRA within that time period, it’s treated as an ordinary withdrawal subject to regular income taxes and a 10% penalty if you’re under age 59½. Plus, you lose the chance to put the money back.
  • There’s also what’s called the one-year rule. You can only use a tax-free rollover in a specific IRA once within a 12-month period beginning on the date you receive your money. Any other withdrawal within that time will be subject to applicable taxes and penalties. Also—and this is important—even if you redeposit the money into another IRA, the account that received the money is subject to the same one-year rule beginning on the date you received the money, not the date you redeposited it.

As you can see, while on the surface a tax-free rollover may seem like an easy way to cover your short-term cash needs, it can get complicated—and costly—if you lose track of time.

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