November 2002

What's New in Finances

Exercise caution with 401(k) loans

11/1/2002 -

Borrowing from your 401(k) retirement plan may sound like a great idea. After all, 401(k) loans may help you to pay for college tuition, a new house, or a hospital bill.

With a 401(k) loan, you can withdraw funds quickly and repay the loan at a low interest rate, generally one or two percent above prime. You may be able to repay the loan over five years or an even longer period if the loan is for a principal residence. Not only that, payments are deposited right back into your 401(k) account.

But 401(k) loans also carry some not-so-apparent costs. Consider this: What if you lose your job and can't pay off the loan balance within a preset time? If you're under age 59½, you'll owe a 10% early withdrawal penalty on the outstanding loan balance. In addition, the outstanding loan balance will be added to your taxable income for the year.

There's also the cost of earning less money on your 401(k) account balance after you take out a loan. Over several years, the result can be substantial and can affect the funds you'll have for retirement.

Bottom line: If you need to borrow, it pays to review all your options. For some people, home-equity loans with tax-deductible interest make more sense than 401(k) loans. If you'd like help deciding which options make the most sense for you, give us a call.