Renwanz Insurance & Financial Solutions, Carlsbad, CA
A 401k is a designed as a retirement vehicle and it is not a good idea to take loans from it unless you absolutely have to. Most 401k plans do allow loans but there may be strict guidelines on making and administering them with some employers. The statutes place no specific restriction on the need or use of the loan, except that they have to be reasonably available to all 401k plan participants. However, the employer can restrict reasons for the loans. It is somewhat common for a plan to restrict the loan for educational expenses for a family member, pay un-reimbursed medical expenses or help purchase your first home. There are restrictions on how much of the 401k balance can be borrowed as well. The IRS says an employee can borrow $50,000 or 50% of the vested account balance.
If you are under age 59 1/2 and you leave your employer and the loan has not been repaid, the loan will be re-classified as income for that year and you would be taxed at ordinary income tax rates. In addition, there would be a 10% early withdrawal penalty.
When you borrow money from your 401k, you interrupt the concept of compounding your money and that can end up costing you a larger portion of your retirement account than you imagined. It is always best to pay back the 401k loan as quickly as possible to minimize the long-term effect on your retirement funds.
Business Development Officer, T.D. McNeil Insurance Services, Fresno, California
With all financial transactions you must weigh the benefits against the costs. The first thing you must do is determine if your employer’s program will allow a loan to you for the purpose you need it. Then you should check on any taxation issue. Next, will the costs related to the loan exceed the value of the loan. Lastly you should plan a program to repay the loan in order to restore the account so that it can continue to grow until you retire.
That is a great question! There are some good reasons for borrowing from your 401k, and some bad ones. The good reasons are that they are typically fairly easy to get, and often at much lower interest rates than a commercial lender would give. And depending upon the structure of your 401k, in some cases, the interest that you pay is to yourself, so there is less loss on the loan itself. The bad reasons are worth considering. The worst is what happens if you are let go, or leave the job before the loan is paid off. In many cases the loan has to be repaid within a short period of time, may have serious tax consequences, and that's not even considering what the withdrawal of the funds may do to the earnings power of your 401k if it's not structured correctly. The best thing to do is speak with your plan administrator, or HR person, and find out the details of taking out a loan and what the terms are. Good luck, and thanks for asking!
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If you are under age 59 1/2 and you leave your employer and the loan has not been repaid, the loan will be re-classified as income for that year and you would be taxed at ordinary income tax rates. In addition, there would be a 10% early withdrawal penalty.
When you borrow money from your 401k, you interrupt the concept of compounding your money and that can end up costing you a larger portion of your retirement account than you imagined. It is always best to pay back the 401k loan as quickly as possible to minimize the long-term effect on your retirement funds.