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I agree with both steppel and Gglass555 about being careful. What sounded odd to me is Gglass555's description of his plan loan and the other 1/2 as security (and oviously, I have not read his/her plan documents). In the plans that I have seen (and admittedly not many), if the loan is not repaid, then the loan is treated as a distribution and taxes (and penalties, if applicable) are due ont his amount, but the balance that stayed in the plan is just fine and stays in the plan or is removed pursuant to the ussual rules. I have never heard of a plan that seizes an amount equal to the loan and treats both the loan and the amount seized as distributions.

Actually a little clarity is required. Most of all of this is a partial regurgitation of IRC §72(p)(1)(A). Suprisingly, when you do take out a 401(k) loan, you can only borrow up to 1/2 your vested balance; because, most often (but not always), the other 1/2 which stays in the plan DOES act as security for the loan. Then, if you default the loan, what remains in the account pays off the prommisory note and the amount needed to extinguish the note is a "deemed distribution" to which taxes & penalties apply. I know these seems somewhat circular, but this how it happens.

Further, your remaining 1/2 in your 401(k) account does not have to be the security for note. You can, with a VERY cooperative plan administrator, supply a different security such as a mortgage on your residence. Then, should you default the note; guess what, the plan administrator can not use your remaining balance to close out the note; instead the PA has to commence foreclosure proceedings against the security (your home) to satisfy the note. I've been there & done that. However, as I said, it takes a very, very cooperative PA to impliment this strategy.


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