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I like to take a loan from my 401K?

Is there a time limit or a charge to receive a loan?

May 17, 2012 by Gonzalo from Berwyn, IL in  |  Flag
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Herbert N Glass Level 18

If your 401(k) plan allows loans, you can probably apply for one. Many plans do have a first year charge for taking a loan to cover the paperwork and other administrative work to put the loan into place. also there may be an annual charge whille the loan is outstanding. However, not all plans have any charges for taking a loan. You can find out if there are any charges by asking your plan sponsor/employer. If they do not know, call the company that administers your plan and ask them.

There is one cost that all loans do have. That is the cost of interest on the loan. All plan loans must charge you a reasonable rate of interest, so you should expect to be paying some interest if you do get a loan from your 401(k) plan.

With respect to a time limit regarding loans, one time limit is that most loans from a 401(k) plan must not be for more than five years and a participant borrower must at least make quarterly payments to payoff the full loan. One exception to the five year rule is that the loan may have a longer term than five years if the loan is made to purchase a dwelling that qualifies as a principal residence.

Herbie Glass

Comment   |  Flag   |  Jul 12, 2012 from Franklin, MI

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Hi Gonzalo, there is typically no charge/fee to take out a loan from your 401k, but you can double-check with your human resources department (or 401k plan administrator) to be sure. There are some issues to consider though.

While you have a loan outstanding from your 401k, you cannot make additional pre-tax contributions. So having a loan effectively puts your retirement savings on hold, at least until you repay the loan.

The tax consequences of a 401k loan are very unfavorable and even very expensive. 401k loans are repaid with after-tax dollars (whereas normal contributions are pre-tax, as I mentioned above). So those loan repayment dollars have been taxed once. But when you retire, and and all money coming out of your 401k (whether it is contribution money, repaid loan money, earnings on your investments, etc.) will be taxed again as ordinary income. That means your loan money will effectively be taxed twice! And that makes a 401k loan VERY expensive, regardless of how low the interest rate on it may be.

If you borrow the money for anything other than buying a home, you must re-pay the loan within 5 years. (If you borrow to purchase a home, the length of the loan may be longer).

Mike

1 Comment   |  Flag   |  May 17, 2012 from Orland, IN
Andrew Charbonneau, QKA

Mike & Gonzalo -

Just to clarify...Employee deferrals are only suspended if a participant takes a hardship withdrawal from the plan. Generally, deferrals must be suspended either 6 or 12 months depending provisions in your plan.

A participant can continue to defer (either pre-tax or Roth) while making after tax loan repayments. I don't have the section of the Internal Revenue Code readily available however I can certainly look it up if you need me to clarify.

I would also recommend you contact your employer to clarify any additional restrictions on participant loans. While the IRS has general specifications for participant loans, an individual plan may have additional restrictions.

Finally, on the fees....There is almost certainly a fee for taking a loan. In my experience, the fee ranges from $50-$150. Some employers may pay participant loan fees, and some may have the fee automatically withdrawn from your account. I would double check the fee with your employer just to be sure.

Andrew

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Flag |  May 17, 2012 near Ashland, MA

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While the law allows 401k plan sponsors to offer loans, you'll find that many smaller employers or plans choose not to offer them. They can be an administrative nightmare especially for smaller firms. And whether or not an employer's plan offers a loan will be up to the employer and detailed in the plan summary documents.

You will likely find that there is a charge to process a 401k loan if it is an offered option. Employers can put restrictions on the reasons for the loan.

Typically, loans are required to be repaid over five years (longer if the loan is for the purchase of a home).

If you've not had any other loans in place for at least one year, you may likely be allowed to borrow up to 50% of the balance to a maximum of $50,0000 and there may even be a loan minimum (say, $1,000 for instance).

If you've had a loan balance at any time in the prior 12 months, you'll be limited to the lesser or 50% of your vested balance or $50,000 less your loan balance that you had in the previous 12 months.

Comment   |  Flag   |  May 17, 2012 from Amesbury, MA

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