Explain to me why it's a bad idea to borrow against your 401k?

[Anonymous]

1. Don't do it.
2. Get a new credit card that allows you to transfer old balances with a zero interest apr for the first year. Repay as much as you can. If you still have an outstanding balance at the end of the year, do it again with a new card. Don't close any accounts because this will improve your credit to debt ratio.
3. Unless dire circumstances don't dip in to retirement, it is for retirement.

[Anonymous]

I've seen a lot of people who do this and then somehow can't pay it back when it is due (job loss or other situations) and end up owing a ton in taxes!!

[Anonymous]

What 2106 said...I took out a loan for thousands, after working for the company many years. But then my company went bankrupt, I lost my job, couldn't pay it back in time -was due very quickly upon being laid off - and had penalties/taxes to pay at the end of the year.

In hindsight I should have handled it differently. But there are other times when you have no choice but to raid your 401K, if you're out of work for a long time for example and have no other options to keep a roof over your head.

[Anonymous]

Anonymous wrote:

Anonymous wrote:

Anonymous wrote:

Best post ever.

I know! I just wish it were longer.

I just spit out my coffee. Well done.

Seriously, the L O N G pp makes some very good points - boiled down, they are: It can be a good idea if you (i) understand the risks (chiefly what happens if you lose your job); (ii) understand the costs (not getting investment gains on the borrowed $$, potentially being unable to contribute to the 401k while a loan is outstanding - that has current tax as well as retirement consequences); and (iii) most importantly, understanding that this is a last resort, not a frequently used strategy to pay off avoidable consumer debt.

Too funny. I posted that long post over a year ago! So whatever OP was thinking, I am sure she has decided by now. FWIW, I'm still glad of what I did. Repaying those loans gave me a sense of financial control and direction that I hadn't really valued before. There are many times when it is smart to take advantage of this option. If you are making 6 percent (or losing money) on investments and paying 23 percent (compounded every .3 seconds!) then you can do your own math. Obviously, you have to take a calculated risk against losing your job, etc.

[Anonymous]

Anonymous wrote:I am 62 already and still work full time. Why is it a bad idea to borrow from my 401K to put a new roof on my house that insurance will not cover and I can't afford myself?

Will you be able to pay it back in full before you retire?

[Anonymous]

WHy not transfer it to a credit card with low interest for 1 year and pay it down like crazy?

[Anonymous]

Because when you retire that 401(k) will be all you have. Now you have options like getting a second job, new job, etc. When you retire, no options.

[Anonymous]

You know how congress pays for the tax cuts afforded by allowing people to exclude 401k contributions? They pay for it by factoring in all of the people who will take out early and incur a penalty. Don't do it.

[Anonymous]

Anonymous wrote:Another thing to consider, your original 401(k) contribution goes in pre-tax but any loan repayments are made after tax and then taxed again when you take the money out at retirement. So essentially that pot of money that constitutes the loan is taxed twice. That coupled with the fact that you are earning nothing while that money is not invested should make 401(k) loans a last resort.

Well, it's not that simple... you get money just like a normal loan that comes with no tax implications, and then you pay it back... simple as that, just like a normal loan, think of the 401k account more as the collateral... any other loan/money is treated post tax and you would pay back with post tax money, so it's no different... now, what's not so simple or the catch/rub is that the interest you pay is now invested in the account and thus would get taxed twice, since it's new post tax money invested into a pre-tax account... but remember, if you did a normal loan, you'd never get a dime of that interest money anyways, so would you rather get taxed twice on it or just give the interest to the bank??

Honestly though, I would never do this type of loan unless you're doing something like a bridge loan that's very short term in nature, which then minimizes the risk of repayment of job loss and the relative loss of earned interest in the account.

[Anonymous]

Depends on whether you think your 401(k) will earn more than the interest you pay on the loan.

[Anonymous]

We took out a 401K loan for our home purchase and DH just lost his job and does not have to pay back the entirety of the loan immediately. They are just holding onto the loan and the 401K until its paid off.

A bunch of financial advisers and our tax guy all told us it was a good idea. We are young (early 30's) and it is basically borrowing money from ourselves with no additional interest and no tax implications.

I know DCUM thinks retirement with $10M per year is the most important thing in the world but some of us need to live in the present and not 30+ years from now.

[Anonymous]

I am 62 already and still work full time. Why is it a bad idea to borrow from my 401K to put a new roof on my house that insurance will not cover and I can't afford myself?

Why not just take the money out as a distribution, since you are older than 59 1/2?

[Anonymous]

We took a loan against our Thrift Savings Account. Isn't that pretty much the same thing? Best decision we ever made. We had to pay interest, but we were paying it to ourselves. We used it to pay off a higher interest credit card loan. We set up the re-payment as an allotment out of my DH's paycheck. We don't miss the money because we never see it.

I could see BIG problems if you were using it to get further into debt.

[Anonymous]

Anonymous wrote:We took a loan against our Thrift Savings Account. Isn't that pretty much the same thing? Best decision we ever made. We had to pay interest, but we were paying it to ourselves. We used it to pay off a higher interest credit card loan. We set up the re-payment as an allotment out of my DH's paycheck. We don't miss the money because we never see it.

I could see BIG problems if you were using it to get further into debt.

And the TSP interest rate is only 1.5%. I wish we could borrow more against my husband's but he hasn't been a Fed very long.

[Anonymous]

There are two costs to consider. First, is the short-term costs of "borrowing" the money and then paying it back to the 401K. But second, and much more significant is that when you take the money out, it is no longer there earning your retirement. One of the ways that a retirement fund makes you more money is by putting money in early, you get a compounding interest over decades instead of over years. For the money that you take out, you are not only halting your retirement, you are decreasing the end result by the compounding effect of the interest over 20-30 years of your career. You can put a smaller amount in now and have a bigger effect than putting in a larger amount later. For example, $1K saved when you are 25 years old, will compound and be worth more than $2K put in when you are 50 years old. And if you need a certain amount in your 401K to retire at the lifestyle that you want, you may have to make very costly "catch up" payments in your later years to get your 401K to the level you'll need to sustain your family after retirement.

Personally, I think that this has to be a last ditch solution when you've run out of all other options because the cost can be dramatic depending on how much you are saving and how far you are away from retirement.