Where can you turn if you need cash in an emergency? Some people turn to their 401(k) plans. After all, your are borrowing your own money and paying it back to yourself with interest.
On the Positive Side
If your plan permits loans (and not all plans do), you will generally be able to borrow up to half of your vested plan balance, capped at $50,000. Taking a loan from your plan may be easier and faster than getting a loan from a traditional financial institution. And you will usually repay the principal and interest to your plan account through automatic payroll deduction.
On the Negative Side
Taking a loan from your 401(k) plan may put you at risk of not reaching your retirement goals. Before you take any money from your retirement account, take time to review its impact and the rules associated with 401(k) plan loans.
The money you borrow will no longer be in your account benefiting from tax-deferred growth. Plus, you will be repaying the loan with after-tax dollars.
That means the money used for repayment will be taxed twice since you will pay tax on it again when you withdraw it at retirement. And, if you have trouble contributing to your plan account while you are making loan payments, you might end up with less saved for retirement than you need.
And the really bad news? If you leave your employer for any reason, you will usually have to repay the entire loan balance within 90 days or it will be considered a taxable distribution, requiring you to pay income tax on the amount of the loan. Furthermore, you may potentially owe a 10% early withdrawal penalty on the amount in addition to taxes.
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