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The Good, Bad, and Ugly of 401(k) Loans

12/15/2009:

Many owners and employees like the peace of mind that 401(k) funds can be accessed in case of emergency. 401(k) loans offer flexibility and low interest rates. You pay yourself back into your 401(k) account versus a bank or other financial institution. And yes, the loan option is a nice advantage over IRAs that have no loan option and typically carry tax penalties if tapped before reaching retirement age. But be careful.

If you take a 401(k) loan you will likely hurt your retirement savings as the loan amount will not have the opportunity to grow with your investments during the time it is out, and there are still potential tax consequences if you lose or switch jobs and are unable to pay off the loan balance. 401(k) loans don’t transfer between employers, and the unpaid amount is typically due within 30-90 days of leaving an employer. The savings impact and potential penalties if you are unable to pay back the balance is why it is taboo to take a 401(k) loan.

Read this guide to get the full scoop on 401(k) loans including rules on the amount individuals are able to access, typical payback schedules and the tax penalty for defaulting on a loan.

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