Capital sources: Retirement savings

Liquidating your retirement savings is another way to get cash, although it's not usually recommended by financial planners, as you are cashing in your future. The advantages are that you can usually get the money in a few days, and there are no restrictions on how the money is used.

However, withdrawing cash from a retirement account such as an IRA or 401(k) before the allowable age will normally cost stiff penalties, and the cash you take will be considered taxable income. Unless a specific hardship is documented, there may be a 20 percent withholding fee to prepay federal tax, plus a 10 percent penalty.

You have to balance the penalties vs. the cost of a conventional loan.

So when should you use retirement savings for business financing? Experts say to calculate the future and present value of your money.

"If it's the only asset that you have and you need the money, that's where your present value of money comes from," explains Rich McClintock, small business lending officer at Fidelity Federal of Florida in West Palm Beach. "Right now with the (stock) market throwing off 15 to 20 percent, you do a future value of your money (and) it's worth a lot more invested."

You also lose future compounding on the lost earnings.

Most company 401(k) plans offer loans of up to half of your vested balance (with a $50,000 limit). They usually charge the prime rate plus one or two percentage points, about 8.5 percent or 9.5 percent. But if the money you pull out of a 401(k) stock account is earning 12 percent, that is really the cost of the loan, not the 9.5 percent. To counter some of the loss, you are actually paying the interest to yourself while you pay down the debt.

There are other drawbacks. Federal law requires that you repay the loan within five years, but if you leave or lose your job (even if you didn't elect to leave) you may have to pay it back sooner, say in 30 to 90 days. Miss the deadline and Uncle Sam slaps you with tax on the unreturned portion as well as a 10 percent penalty if you are less than 59 1/2 years old.

Keep in mind also that you're paying off the loan with after-tax money vs. the pretax money you had contributed. Company rules vary on payback terms, so it's important to talk with your company benefits person before taking out this type of loan.

What happens if you don't borrow from your 401(k)? Let's say you have a starting 401(k) balance of $100,000 and you normally make a monthly contribution (including any employer match) of $600. Your estimated annual rate of return is 12 percent. After five years, your balance would have risen to $231,161.48.

What happens if you do? With the same starting balance of $100,000 you decide to borrow $25,000 at 9 percent interest, for a repayment term of five years, or 60 months. Your monthly loan payments would be $518.95. If you could no longer afford contributions, but simply paid back the loan, after 60 months your 401(k) balance would be $179,059.28. If you paid back the loan and continued the $600 a month contribution, your balance would be $228,551.10. It's still a little lower than if you had never touched the account and you had to put in a little over a $1,000 a month to get there.

Also, remember that you can move the contents of a 401(k) to another tax-deferred retirement account, such as a Keogh or an IRA, at any time. A direct transfer of the funds from one custodian (your employer's plan) to another (your new account) eliminates any withholding taxes or withdrawal penalties.

But you may want to handle the transaction yourself. Federal law gives you 60 days to roll over your distribution into another accepted retirement fund before any penalties or withholding applies. You can ask for your distribution in the form of a check, minus 20 percent that will be withheld for federal income tax. The catch: You have to reinvest the full 100 percent into another retirement plan within 60 days of receiving the check to avoid additional taxes and a potential 10 percent early withdrawal penalty.

When you reinvest, you must replace that 20 percent from other sources as well as the 80 percent you took in the form of a check. Otherwise that 20 percent will be considered a distribution and be taxed and penalized as an early withdrawal. But in the meantime, you can use the money.

This 60-day loan to yourself should only be undertaken if you have other assets to help cover the costs of the rollover, for example, a CD that would mature within those 60 days and has a balance big enough to cover the required deposit. Failure to reinvest the full amount will result in heavy tax penalties.

If you decide to keep retirement savings intact and to borrow money from other sources, you cannot use simplified employee investment plans as collateral.