Debunking The Myth: Loan From 401(K) Doesn't Doom Your Retirement

401(k) loans can be a convenient way to access funds, but they come with potential drawbacks. When you take a loan from your 401(k), your investments are liquidated, which means you lose any positive earnings that would have been produced by those investments for a short period. However, the cost advantage of a 401(k) loan is the equivalent of the interest rate charged on a comparable consumer loan minus any lost investment earnings on the principal you borrowed. Additionally, repaying the loan usually allocates the funds back into your portfolio's investments, and if the interest paid exceeds any lost investment earnings, taking a 401(k) loan can actually increase your retirement savings progress.

Impact on investment performance

K) loans can be borrowed up to $50,000 or 50% of your account balance, whichever is less. The obvious downside is depleting the money you are saving and investing for your future. Taking a 401(k) loan and repaying it in the right way can not negatively impact your retirement savings.

The cost advantage of a 401(k) loan is the equivalent of the interest rate charged on a comparable consumer loan minus any lost investment earnings on the principal you borrowed. As you make loan repayments to your 401(k) account, they are usually allocated back into your portfolio's investments. You will repay the account a bit more than you borrowed from it, and the difference is called "interest". The loan produces no impact on your retirement if any lost investment earnings match the "interest" paid in—earnings opportunities are offset dollar-for-dollar by interest payments. If the interest paid exceeds any lost investment earnings, taking a 401(k) loan can actually increase your retirement savings progress.

You specify the investment account(s) from which you want to borrow money, and those investments are liquidated for the duration of the loan. Therefore, you lose any positive earnings that would have been produced by those investments for a short period. And if the market is down, you are selling these investments at a cheaper price than at other times. The upside is that you also avoid any further investment losses on this money.

Common arguments against taking a loan include a negative impact on investment performance, tax inefficiency, and that leaving a job with an unpaid loan will have undesirable consequences.

Tax inefficiency

The cost advantage of a 401(k) loan is the equivalent of the interest rate charged on a comparable consumer loan minus any lost investment earnings on the principal you borrowed. However, the loan produces no (that is to say, neutral) impact on your retirement if any lost investment earnings match the "interest" paid in—earnings opportunities are offset dollar-for-dollar by interest payments. If the interest paid exceeds any lost investment earnings, taking a 401(k) loan can actually increase your retirement savings progress.

It's important to note that 401(k) loans are not true loans, because they do not require a credit check or a lender's evaluation of your credit history. They are more accurately described as the ability to access a portion of your own retirement plan money.

In summary, while tax inefficiency is a valid concern when considering a 401(k) loan, it is important to weigh the potential benefits against the short-term impact on your investments.

Consequences of leaving a job

K) loans can be borrowed up to $50,000 or 50% of your account balance, whichever is less. Repayments are allocated back into your portfolio's investments, and the difference between what you borrowed and what you repay is called interest. If the interest paid exceeds any lost investment earnings, taking a 401(k) loan can increase your retirement savings progress. However, proportionally reducing your personal (non-retirement) savings is a downside.

Common arguments against taking a loan include a negative impact on investment performance, tax inefficiency, and that leaving a job with an unpaid loan will have undesirable consequences.

You can usually borrow up to $50,000, which must be repaid. The obvious downside is depleting the money you are saving and investing for your future. But, when a 401(k) loan is taken and repaid in the right way, your retirement savings should not be negatively impacted.

You specify the investment account(s) from which you want to borrow money, and those investments are liquidated for the duration of the loan. Therefore, you lose any positive earnings that would have been produced by those investments for a short period. And if the market is down, you are selling these investments at a cheaper price than at other times. The upside is that you also avoid any further investment losses on this money.

K) loans can usually be borrowed up to $50,000 or 50% of your account balance, whichever is less. If you don't want to tap into your retirement savings for money, you can always look into taking a personal loan.

Repayment of borrowed money

K) loans can be borrowed up to $50,000 or 50% of your account balance, whichever is less. Repayments are allocated back into your portfolio's investments and usually require a bit more than you borrowed. The difference is called "interest". If the interest paid exceeds any lost investment earnings, taking a 401(k) loan can increase your retirement savings progress. However, this will proportionally reduce your personal (non-retirement) savings.

The cost advantage of a 401(k) loan is the equivalent of the interest rate charged on a comparable consumer loan minus any lost investment earnings on the principal you borrowed. You can specify the investment account(s) from which you want to borrow money, and those investments are liquidated for the duration of the loan. Therefore, you lose any positive earnings that would have been produced by those investments for a short period.

Common arguments against taking a loan include a negative impact on investment performance, tax inefficiency, and that leaving a job with an unpaid loan will have undesirable consequences. Technically, 401(k) loans are not true loans, because they do not require a credit check or a lender's evaluation of your credit history. They are more accurately described as the ability to access a portion of your own retirement plan money.

You can usually borrow up to $50,000, which must be repaid. The obvious downside is depleting the money you are saving and investing for your future. But, when a 401(k) loan is taken and repaid in the right way, your retirement savings should not be negatively impacted.

Not all 401(k)s provide true loans, as some liquidate the investments and distribute the cash as a loan. The only way to find out which one he has is to ask.

Effect on retirement savings

K) loans can be borrowed up to $50,000 or 50% of your account balance, whichever is less. Repaying the loan back into your portfolio's investments will usually allocate the money back into your investments and repay the account a bit more than you borrowed from it, which is called interest. The loan produces no impact on your retirement if any lost investment earnings match the interest paid in—earnings opportunities are offset dollar-for-dollar by interest payments. If the interest paid exceeds any lost investment earnings, taking a 401(k) loan can actually increase your retirement savings progress.

Taking a 401(k) loan and repaying it in the right way will not negatively impact your retirement savings. You can usually borrow up to $50,000, which must be repaid. The obvious downside is depleting the money you are saving and investing for your future. You can specify the investment account(s) from which you want to borrow money, and those investments are liquidated for the duration of the loan. Therefore, you lose any positive earnings that would have been produced by those investments for a short period. And if the market is down, you are selling these investments at a cheaper price than at other times. The upside is that you also avoid any further investment losses on this money.

Common arguments against taking a loan include a negative impact on investment performance, tax inefficiency, and that leaving a job with an unpaid loan will have undesirable consequences. Technically, 401(k) loans are not true loans, because they do not require a credit check or a lender's evaluation of your credit history. They are more accurately described as the ability to access a portion of your own retirement plan money.

Frequently asked questions