If you're staring down a mountain of credit card debt, you've probably searched for a faster way out than making minimum payments for the next decade.
Two options that may come up in your search are borrowing from your 401(k) or enrolling in a debt settlement program. While both can help you address credit card debt, they work very differently and each comes with significant tradeoffs.
Before deciding which approach is right for you, here's how a 401(k) loan and debt settlement compare, plus alternative options that may be less costly and have less of an impact on your overall finances over time.
Credit card debt: 401(k) loan vs. debt settlement
401(k) loans
A 401(k) loan lets you borrow against your retirement savings, typically up to 50% of your vested balance or $50,000, whichever is less. Most plans require you to repay the loan within five years, and if you leave your job before, the remaining balance can be due quickly.
Because you're borrowing your own money, there's no credit check and the 401(k) loan doesn't appear on your credit report. The interest you pay goes back into your own retirement account rather than to a lender. Interest rates vary by plan but are typically one or two percentage points above the prime rate. For example, if the prime rate is 7%, you can expect to pay an 8% or 9% rate, which is considerably lower than the APR on a credit card. The biggest drawback is the opportunity cost. Money borrowed from your 401(k) is no longer invested, meaning you'd miss out on potential market gains that help grow your retirement savings.
Debt settlement
Debt settlement, on the other hand, involves working with a company (or negotiating yourself) to persuade creditors to accept less than the full amount you owe. This typically requires you to stop making payments on your accounts and instead deposit money into a dedicated savings account until you've accumulated enough to make a lump-sum settlement offer.
Debt settlement can significantly damage your credit because missed payments and delinquent accounts remain on your credit report. There's also no guarantee that creditors will agree to settle, and debt settlement companies typically charge fees ranging from 15% to 25% of the enrolled debt. For example, if you come with $25,000 in credit card debt and get all your balances successfully settled, your fee would likely be between $3,750 and $6,250.
401(k) loan vs. debt settlement
Both a 401(k) loan and debt settlement are generally considered last-resort options for dealing with credit card debt.
If you have a stable job and a clear plan to repay the money, a 401(k) loan could make sense since it typically won't damage your credit. But if your debt has already become unmanageable, you're behind on payments and your credit has already taken a hit, debt settlement may be worth considering.
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Alternative tools for getting rid of credit card debt
Whenever possible, it's worth exploring alternatives such as a balance transfer credit card, debt consolidation loan or nonprofit credit counseling before turning to a 401(k) loan or debt settlement.
With a balance transfer card, you can move your existing credit card balances to a credit card offering an introductory period of zero interest. During this 0% APR time frame, you can chip away at your balance without worrying about more interest accruing. Make sure you have a plan to pay off the entire balance before the interest-free period is up.
Cards like the Wells Fargo Reflect Card and Citi Simplicity Card offer some of the longest intro periods on the market at nearly two years, while cash-back cards like the Citi Double Cash and Chase Freedom Unlimited (see rates and fees) let you keep earning rewards once the promotional period ends.
The Wells Fargo Reflect® Card is one of the absolute best cards you can apply for if you want to save on interest and pay down debit quickly thanks to its extra generous intro-APR offer on purchases and qualifying balance transfers.
- Incredible intro-APR for purchases and qualifying balance transfers
- No annual fee
- Cell phone insurance: up to $600 of cell phone protection against damage or theft. Subject to a $25 deductible
- No rewards
- No welcome bonus
- High balance transfer fee
Highlights
Highlights shown here are provided by the issuer and have not been reviewed by CNBC Select's editorial staff.
- Apply Now to take advantage of this offer and learn more about product features, terms and conditions.
- 0% intro APR for 21 months from account opening on purchases and qualifying balance transfers. 17.49%, 23.99%, or 28.24% variable APR thereafter; balance transfers made within 120 days qualify for the intro rate, BT fee of 5%, min: $5.
- $0 annual fee.
- Up to $600 of cell phone protection against damage or theft. Subject to a $25 deductible.
- Through My Wells Fargo Deals, you can get access to personalized deals from a variety of merchants. It's an easy way to earn cash back as an account credit when you shop, dine, or enjoy an experience simply by using an eligible Wells Fargo credit card.
Balance transfer fee
5%, min: $5
Foreign transaction fee
3%
The Citi Simplicity® Card has amazing intro-APR offers and is particularly valuable for balance transfers due to its lower introductory fee.
- Long intro APR offers for balance transfers
- Low intro-fee for balance transfers
- No annual fee
- No rewards
- No welcome bonus
What makes the Citi Double Cash® Card special is that it sits near the top of its class in several categories. It is an excellent option if you want flat-rate rewards, a balance transfer intro-APR or no annual fee.
- Balance transfers get a long intro APR
- Generous flat-rate cash-back rewards structure
- Earns transferable rewards
- No annual fee
- It has a foreign transaction fee
- Intro APR only applies to balance transfer
- Points transfer ratios are reduced compared to premium cards
Highlights
Highlights shown here are provided by the issuer and have not been reviewed by CNBC Select's editorial staff.
- Earn $200 cash back after you spend $1,500 on purchases in the first 6 months of account opening. This bonus offer will be fulfilled as 20,000 ThankYou® Points, which can be redeemed for $200 cash back.
- Earn 2% on every purchase with unlimited 1% cash back when you buy, plus an additional 1% as you pay for those purchases. To earn cash back, pay at least the minimum due on time. Plus, earn 5% total cash back on hotel, car rentals and attractions booked with Citi Travel.
- Balance Transfer Only Offer: 0% intro APR on Balance Transfers for 18 months. After that, the variable APR will be 18.24% - 28.49%, based on your creditworthiness.
- Balance Transfers do not earn cash back. Intro APR does not apply to purchases.
- If you transfer a balance, interest will be charged on your purchases unless you pay your entire balance (including balance transfers) by the due date each month.
- There is an intro balance transfer fee of 3% of each transfer (minimum $5) completed within the first 4 months of account opening. After that, your fee will be 5% of each transfer (minimum $5).
Balance transfer fee
There is an intro balance transfer fee of 3% of each transfer (minimum $5) completed within the first 4 months of account opening. A balance transfer fee of 5% of each transfer ($5 minimum) applies if completed after 4 months of account opening.
Foreign transaction fee
3%
The Chase Freedom Unlimited® is a no-annual-fee card that earns generous cash-back on everyday purchases and a lucrative welcome bonus. Plus, if you pair it with a premium Chase credit card that allows point transfers, you can convert your cash back into flexible travel rewards.
- Users get a high rewards rate and strong welcome bonus
- Purchases and balance transfers receive an intro APR
- No annual fee
- Has a foreign transaction fee
- Few rewarding ongoing benefits
Highlights
Highlights shown here are provided by the issuer and have not been reviewed by CNBC Select's editorial staff.
- Earn a $200 Bonus after you spend $500 on purchases in your first 3 months from account opening
- Enjoy 5% cash back on travel purchased through Chase TravelSM, our premier rewards program that lets you redeem rewards for cash back, travel, gift cards and more; 3% cash back on drugstore purchases and dining at restaurants, including takeout and eligible delivery service, and 1.5% on all other purchases.
- No minimum to redeem for cash back. You can use points to redeem for cash through an account statement credit or an electronic deposit into an eligible Chase account located in the United States!
- Enjoy 0% Intro APR for 15 months from account opening on purchases and balance transfers, then a variable APR of 18.24% - 27.74%.
- No annual fee – You won't have to pay an annual fee for all the great features that come with your Freedom Unlimited® card
- Keep tabs on your credit health, Chase Credit Journey helps you monitor your credit with free access to your latest score, alerts, and more.
- Member FDIC
Balance transfer fee
Intro fee of either $5 or 3% of the amount of each transfer, whichever is greater, in the first 60 days. After that, either $5 or 5% of the amount of each transfer, whichever is greater.
Foreign transaction fee
3% of each transaction in U.S. dollars
Debt consolidation loans let you combine multiple credit card balances into a single fixed-rate installment loan, which can simplify repayment and potentially lower your interest costs if you qualify for an APR below what you're currently paying.
Some lenders, such as Upgrade and Avant, are known for working with borrowers across a wider range of credit profiles, including those with fair credit. Before taking out a debt consolidation loan, compare the APR, fees and repayment term carefully. While extending your repayment period can lower your monthly payment, it may also increase the total interest you pay over the life of the loan.
We like that Upgrade considers borrowers with fair credit and allows you to apply with a co-borrower, which can improve your odds of approval and receiving favorable rates. The maximum interest rate is on the high side, however.
- Accepts applicants with fair credit
- Approves loans of up to $75,000
- Discount for having creditors paid directly
- Funding in as little as one day*
- Accepts co-borrowers.
- High maximum interest rate
- Origination fee of up to 9.99%
- No physical branches
Why Upgrade is the best for financial literacy:
- Free credit score simulator to help you visualize how different scenarios and actions may impact your credit
- Charts that track your trends and credit health over time, helping you understand how certain financial choices affect your credit score
- Ability to sign up for free credit monitoring and weekly VantageScore updates
Lends to applicants with poor credit and offers next-day funding.
- Lends to applicants with poor credit
- No early payoff fee
- Can prequalify with a soft credit check
- Funding often available next day
- Late-payment grace period of 10 days
- Origination fee
- Potentially high interest
- No autopay discount
- No direct payments to creditors for debt consolidation
- No co-signers
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At CNBC Select, our mission is to provide our readers with high-quality service journalism and comprehensive consumer advice so they can make informed decisions with their money. Every debt relief article is based on rigorous reporting by our team of expert writers and editors with extensive knowledge of debt relief and credit products. While CNBC Select earns a commission from affiliate partners on many offers and links, we create all our content without input from our commercial team or any outside third parties, and we pride ourselves on our journalistic standards and ethics.
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