Pay off mortgage with 401(k) money?

Q: As of Dec. 12, I became part of the 7.9 percent N.C. unemployment statistic.

Though I've been lucky to get interviews, I have no job offers yet. Like many in my situation, I am faced with a monthly mortgage bill and a souring investment portfolio. I have been considering taking the money out of my 401(k) -- what's left of it -- and paying off my $200,000 mortgage. I'm aware of the penalties and taxes I'd have to pay to do this, meaning I'd have to take enough money to clear $200,000.

The advantage, of course, is I'd have my mortgage paid off; the disadvantage is I pay all the penalties and taxes and lose the chance to increase the $200,000-plus I'll be taking out. I'm in my mid-40s, so I'm a long way from retirement, especially now. Whatever I do, I plan to consult my accountant. What do you think?

A: Sorry about your becoming a statistic; not a great way to begin a new year.

I think your accountant and I will give you the same advice: Don't do it.

Withdrawing that much money out of a retirement account will place you in the highest federal tax bracket and in the highest state tax bracket. If you live in North Carolina, you will owe approximately 8.5 percent in state tax, so 43.5 percent of all money taken out will go toward income taxes.

An additional 10 percent will be owed for an early withdrawal penalty since you are under age 59 1/2. You would need to withdraw nearly $450,000 to net $200,000.

If you have $450,000 in your 401(k) in your mid-40s in this miserable stock market environment, congratulations! It would be a bad move to pull out that much money when the market is so far down and then see more than half of it disappear to pay taxes.

Your next job may not pay as much as your former job, and many companies are either lowering or eliminating retirement plan matches; how many years would it take to accumulate another $450,000?

I suggest you roll your 401(k) plan directly into a self-directed IRA at a discount brokerage firm such as TD Ameritrade, Schwab, Fidelity or Scottrade. Once the money is in the IRA, you can withdraw what you need to meet expenses until your employment situation improves.

You can make withdrawals as often as you like, and if you don't need the amount withdrawn, you can make a deposit back into your IRA within 60 days and avoid any tax or penalty on the amount you redeposit.

Let's hope you will find employment sooner than later, and you will be able to leave much of your rollover IRA intact.

During the campaign, President-elect Barack Obama proposed an elimination of penalties on withdrawals from retirement plans, including IRAs. Under one plan, 15 percent of the balance up to $10,000 would qualify for penalty-free withdrawals. You would still owe federal and state income tax on the amount withdrawn, but you would avoid the 10 percent early withdrawal penalty.

I don't have any idea if this campaign proposal will come to fruition; but if it does, it will be retroactive to any withdrawals made in 2009. If it does pass, you will have a better chance of avoiding the 10 percent penalty if you make small periodic withdrawals from an IRA.

Best of luck with your job search!