With some companies, you can take out one or multiple 401k loans for any reason, whether it’s to pay off credit cards, buy a new home, pay medical expenses, or just take a vacation. There are many benefits to taking out a 401k loan. Unlike a loan from a bank, there is a more simple application and approval process involved. You are only responsible to yourself when taking a loan from your retirement account. Also, with a 401k loan, you are not taking on more debt that will be reflected on your credit report. Since it is a debt only to yourself, it doesn’t affect your credit. However, taking out a 401k loan is not necessarily a solution to your financial troubles.
Cons of 401k Loans
When you take money from your retirement account, you will significantly reduce how much money you have for your retirement. Not only do you reduce your balance by the amount of the loan, you lose any potential gains that money would have made during the time it takes you to pay the loan back in full. It’s possible that $10,000 in your retirement account could double in value in five years. If you take out a $10,000 loan, you may pay back the $10,000, but will not see that $10,000 gain. In addition, over the next 20 years, that $10,000 may have earned you tens of thousands of dollars.
Also, if you stop making payments on the loan because you change jobs or can no longer afford the payments, you will be required to pay taxes and penalties on the unpaid portion of the loan. It may not be a debt to creditors, but 401k loans are usually a more expensive loan choice.
How to Take Out 401k Loans
Taking out a 401k loan is almost too easy at many companies. Most offer online access to your retirement account to check your balance, change contribution amounts, and even request a loan. First, check your account online to determine if the loan options and details are available to you online. If your company has made it easy, you will be able to see how much money is available to you through a loan, what you can use the loan money for, and the terms of the loan. You may even be able to then request the loan with an online form. If this information is not available to you online, then contact your human resources department for your company’s 401k loan information.
The loan terms do vary greatly from company to company, as the company can set its own rules on barrowing against a 401k. This includes whether you can pay back the loan and still make your regular tax-free contributions at the same time and for what reason you can take out a loan. Before taking a loan out against your 401k, make sure you understand the repayment plan and the consequences to your future retirement finances and overall investment portfolio.