Depending on whatever financial situation you are in, you may want to take out a loan. It could be a loan for a new car, a medical payment, repairs of the nature, or college tuition. For any reason you may take out a loan, you may end up wanting to take out a loan from your 401K plan. Unfortunately, there are critical drawbacks to borrowing against your 401K plan. While there are benefits, the drawbacks seemingly carry for weight for a number of reasons. Things unexpectedly can and possibly will happen in which you will feel the sting of such drawbacks.
On the website called “Money-Zine,” three drawbacks are listed.
The first drawback, noted by Money-Zine, is that you have to consider what kind of 401K plan you already have. Depending on the plan, you will not be allowed to contribute to it until the loan is completely repaid. In short, the loan has to be repaid in full. It further adds that if the contributions are matched by your employer, you will be missing out on money. In this respect, you will be shooting yourself in the foot on the long run.
The second drawback is that you cannot write the interest and/or expenses off your taxes. In short, the interest paid is not tax deductible.
The third drawback is that the terms are short term. For that reason, you may want to find alternatives than taking a loan out against your 401K plan.
The website called “Spruce Up Your Finances,” gives further drawbacks of doing so.
The first drawback, according to the website, explains that you lose the opportunity to grow your 401K plan. Depending on the situation of the stock market, this could cause a lot of financial pain for you if and when you retire. To avoid getting hurt, you need to keep a constant eye on the stock market.
The second drawback is that you have to pay back the loan immediately when you leave the company provided that you are allowed to keep your 401K plan. If you do not pay back the loan immediately, it will cause you to pay more taxes. Plus, you end up paying penalties if you have not reached the certain age. Also, this also “increases” your income causing you to be placed on the higher bracket of taxes. In short, you will end up paying more taxes.
The final drawback is that all payments to the loan borrowed against the 401K plan are paid via the money you get after taxes.
According to the website called “Choose Financial Freedom,” there is a drawback that can be added onto the second one stated by Spruce Up Your Finances. If you end up losing your job such as being laid off, you have to pay it immediately.
With the drawbacks factored in, there are many reasons not to borrow money against your 401K plan.