How do 401(k) loans work?

By Chizoba Morah AAA
A:

When individuals are in a tight spot financially, they usually turn to 401(k) loans. The interest rate for the 401(k) loans are usually a point or two higher than the prime rate, but they can vary. By law, individuals are allowed to borrow the lesser of $50,000, or 50% of the total amount of the 401(k).

Like any other loan, there are pros and cons involved in taking out a 401(k) loan. Some of the advantages include convenience and the recipient of the interest paid. For example, if you take out a 401(k) loan and you are paying 12% interest on it, that 12% is going back to your 401(k) because that is where the money is from. One major disadvantage of a 401(k) loan is the loss of tax sheltered status in the event of a job loss. If you take out a loan on a 401(k) and you lose a job or change jobs before the loan is fully repaid, there is a 90 day period in which the full amount of the loan is to be repaid. If the loan is not fully repaid at the end of the 90 days, not only does the amount become taxable, an additional 10% penalty is charged by the Internal Revenue Service (IRS) if you are under the age of 59.5. (For more on 401(k) plans, read our article: The 4-1-1 on 401(k)s.)

This question was answered by Chizoba Morah

 

RELATED FAQS

  1. What is the difference between a Traditional and a Roth IRA?

    The main difference between a Traditional and a Roth IRA is the way contributions are deducted for tax breaks. Whereas contributions ...
  2. I am in my mid thirties and have nothing invested for retirement. Is it too late ...

    It is never too late to start saving for retirement. Even starting at age 35 means you will have more than 30 years to save.The ...
  3. Should I collect early Social Security?

    The earliest age that you can start receiving social security benefits is age 62. Full retirement was age 65 for many years; ...
  4. I work for two companies. How much can I contribute to each company's SIMPLE IRA?

    It depends.If you work for two companies that are unrelated and unaffiliated, you can make salary deferral contributions ...
RELATED TERMS
  1. Eligible Transfer

    An IRS-allowed movement of assets into or out of an individual ...
  2. Death Master File (DMF)

    Also known as Social Security Death Index. A list of people whose ...
  3. Leveraged Benefits

    The use – by a business owner or professional practitioner – ...
  4. Peri-Retirement

    A term for the period of time leading up to actual retirement. ...
  5. MyRA

    A new tax-advantaged retirement account that President Barack ...
  6. Target-Date Fund

    A mutual fund in the hybrid category that automatically resets ...
comments powered by Disqus
Related Articles
  1. An Overview Of The Pension Benefit Guaranty ...
    Retirement

    An Overview Of The Pension Benefit Guaranty ...

  2. Business Owners: Rules For Qualified ...
    Entrepreneurship

    Business Owners: Rules For Qualified ...

  3. Keeping Track Of Retirement Plan Assets
    Retirement

    Keeping Track Of Retirement Plan Assets

  4. Tips On How To Use IRAs To Boost Retirement ...
    Retirement

    Tips On How To Use IRAs To Boost Retirement ...

  5. Tax-Saving Advice For IRA Holders
    Taxes

    Tax-Saving Advice For IRA Holders

Trading Center