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Practical Answers For Crisis Questions
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Published: October 12, 2008
After hearing the country's financial system characterized by words such as "crisis" and "disaster" over the past several weeks, I wasn't surprised to find that my inbox was clogged with questions. Many people are looking for ways to save money. Others want to know where to put the money they've already saved. And nearly everyone wants some reassurance that the decisions they're making - whether they're about credit, their homes, or investing - are the right ones.
Jim in Santa Barbara, Calif., asks: "The company I work for is closing. They are offering a severance equal to six months pay, which is coming from our salary pension fund that was over-funded. What are my options to avoid a heavy tax penalty, but still have my money available to me in case of an emergency?"
I'm sure there are more than a few people who share your situation, although I have to tell you - you're getting a pretty nice package, particularly in this economy. So that's the good news. The bad news is that severance payments are treated as - and taxed as - income. One thing you want to look out for in particular, according to Nancy Hwa, spokesperson at the Pension Rights Center, is that if you find another job quickly (and, of course, I hope you do), the new salary on top of the severance could push you toward a higher tax bracket.
There aren't a lot of ways to dodge the taxes you'll owe, but here are a few things you should know: You can deduct the cost of your search for a new job, as long as you're staying in the same field. These deductions go on your return as "miscellaneous itemized deductions" and have to exceed 2 percent of your adjusted gross income to qualify. Travel expenses to and from interviews may boost you into that category. You can also write off education expenses that enhance job skills and medical expenses can be deducted if they top 7.5 percent of gross income. Your COBRA payments to maintain health insurance are included in this total, so they may push you over the top.
The most important thing to keep in mind is that this is, of course, a very tough market in which to find a job. Make sure you plan carefully and watch your spending, to make that severance go as far as possible.
Shannon in Tampa asks: "My husband and I are in our mid-50s and we contribute generously to our 401(k) plan and Roth IRAs. We have one child in college and are paying the tuition from our small savings, but it is going fast due to the cost of gas and other items. Paying off my car would free up enough money to help absorb the additional expenses. The remaining term is two years and the balance is about $5,000. The only funds available without a penalty would be the principal amount in my Roth IRA. What should I consider before making this transaction?"
Good for you for first looking to money that you can access without penalty. When you pull money from the principal in a Roth IRA, not only will you not pay a penalty, but you also won't be taxed - that's not the case with a traditional IRA or a 401(k).
You have two options here. It sounds like paying off that auto loan would be a weight off your shoulders, so by all means, I think you should. But, instead of withdrawing money, which would likely mean selling some of your investments while they're down, why not scale back your contributions for the time being and funnel that chunk of money to the auto loan?
The other area I'd look to for freeing up some cash is the university bills. Has your child thoroughly researched scholarships, grants and student loans? If you're starting to struggle a bit, there's no reason he or she can't rely on those options to help you out a bit. That way, you can shift some of the money you're putting toward college to the car loan and leave your retirement savings plan intact.
Reporter Arielle McGowen contributed information to this column. Jean Chatzky is an editor-at-large at Money Magazine and serves as AOL's official Money Coach. She is the personal-finance editor for NBC's "Today" show." Reporter Arielle McGowen contribute
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