home equity installment loans

Payments made toward the loan are taxed

Payments made toward the loan are taxed

Any interest paid goes back to you. “With a 401(k) loan you are paying interest to yourself rather than a third-party bank or credit card company”, says Bethany Riesenberg, a CPA at Spotlight Asset Group. “In many cases, the interest rate is lower than credit card rates, so it may make sense to take out a 401(k) loan to pay off high-interest debt you have.”

Finally, an important drawback to consider is if you leave your job before the 401(k) loan is repaid

Withdrawn funds won’t benefit from market growth. The biggest drawback is that the money you take out of your 401(k) account won’t grow. Even if you pay the money back within five years including any interest, this still may not make up for the money you lost if market growth occurred at a higher rate on average during those five years.

You’ll have to pay fees. Fees are another issue since borrowing from your 401(k) is far from free. Yes, you’ll be paying interest back to yourself, but that’s still extra money you’ll need to hand over. Plus, you may pay an origination fee along with a maintenance fee to take out a 401(k) loan based on your plan.

Another thing to consider is that your loan repayments are made with after-tax dollars (even if you use the loan to buy a house), and you’ll be taxed again when you withdraw the money later during retirement.

You might not be able to contribute to your 401(k). “Some plans do not allow you to continue to contribute to your 401(k) if you have a loan outstanding,” says Riesenberg. “That means, if you take five years to pay off the loan, it will be five years before you can add funds to your 401(k), and you will have missed savings opportunities as well as missing out on the tax benefits of making 401(k) contributions.”

Additionally, if your employer makes matching contributions, you will also miss out on those during the years where you aren’t contributing to your 401(k).

You might need to pay off immediately if you leave your employer. In this case, your plan sponsor may require you to repay the full 401(k) loan. Also, the IRS requires borrowers to repay their 401(k) loan balance in full upon the tax return filing date for that tax year. If you’re unable to meet those requirements, the amount may be withdrawn from your vested 401(k) balance and treated like a distribution (subject to a 10% withdrawal penalty).

  • Fast access to money (no application or credit check required)
  • Can borrow up to $50,000 or 50% of your vested 401(k) balance
  • Interest rate is lower than credit cards and most personal loans
  • Interest is paid back to your account
  • 5-year loan term may be extended if you borrow the funds to buy a primary residence
  • Lose out on account market growth
  • May not be able to make retirement contributions during repayment
  • Miss out on employer match if you can’t make contributions (until the loan is repaid)
  • Loan payments are made with after-tax dollars
  • Loan turns into a distribution and is subject to taxes and penalties if you can’t pay it back

401(k) loan vs. 401(k) withdrawal

You should utilize a 401(k) loan if you intend to pay the money back to your retirement account. However, if you’re just looking to take money out for an expense, this would be considered a withdrawal.

Withdrawing money early from your 401(k) is often not recommended since you’ll be subject to fees and taxes if you’re not at least age 59 ?.

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