I already have an existing loan from my 401k plan,I need cash but can I still get money out of my account?
When an unexpected bill arrives or you’re short on cash, it’s tempting to look at your 401(k) as a quick and easy source of funds. But just because you can tap your 401(k), should you?
I’ve found this to be a common question and recently received an inquiry from a a participant in the 401(k) plan of a Boston area employer.
Here is what I recommended for his consideration:
While your plan may offer you the option to borrow, you need to be aware of any restrictions put in place by the 401(k) plan administrator. Such information may be found on the administrator website or in the plan’s summary document available from the administrator or possibly your HR representative.
Generally, if the plan allows loans, the rule is you can borrow up to 50% of your vested balance to a maximum of $50,000 IF you had no other plan loan in place in the 12 month period ending on the day you apply for the loan.
In the case where you have a plan loan outstanding, then the new loan is limited. It is the lesser of 50% of the vested account balance or $50,000 minus the outstanding loan balance in the preceding 12 months.
The plan may impose a fee for arranging the loan and may also have a minimum loan amount (for example, $1,000). In addition to the minimum loan amount requirement, your plan administrator may restrict the reason for the loan to a list of approved reasons (for example, uninsured medical expenses, college tuition, purchase of a primary residence).
Just because you can get a loan from your 401k doesn’t mean that you should. Sure, it is convenient, fast and relatively inexpensive. Yes, you are “paying yourself” for the borrowed money and not a credit card company or bank. Yes, the interest is tax-sheltered and there is no tax consequence for receiving funds as long as you pay it back.
While there may be no tax consequence for receiving the loan proceeds while still employed, as soon as you leave your company the loan will be considered a distribution from the plan unless you can repay it within a certain amount of time. If you can’t repay it, then you’re looking at a big bump to your W2 as the distribution will be considered income leaving you with a potentially large tax liability – and headache if you can’t pay the taxes.
So if you are nearing retirement, may be changing jobs or are facing a lay-off in the near future, need the proceeds for meeting daily living expenses (as opposed to some extraordinary or large capital expense) or are using your 401k like a piggy bank to buy luxury items or pay for a vacation, then the answer is simple: Don’t do it.
