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Author: Rayvt Big gold star, 5000 posts Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: of 76080  
Subject: Re: Simple question about 401k-to-IRA conversion Date: 2/25/2011 8:41 AM
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Once you look at what is actually going on, you realize that a 401k loan is NOT actually a loan! (At least not in any of the various 401k's that I've had. Perhaps a few others are different.)

What it *actually* is is a withdrawal that you are required to pay back over time, along with a slight additional amount in a sum that is computed as if it were interest.

The 401k doesn't just "lend" you money. It deduces the amount of your holdings by the loan amount. If you had $100K in the S&P500 fund and then took a $50K loan, and the S&P gained 10%, the value of your S&P holding would *not* be $110K----it would be $55K.
When you make the loan payments, that money is parcelled out to your current set of fund choices just like your regular paycheck contribution is.

As everyone notes, the "interest" isn't really interest, since you are paying it to yourself.
Also, a point that most people don't recognize about that "interest". You pay double tax on it. Your 401k contributions are before-tax money, and you pay income tax on the withdrawals. But the interest you pay on a loan is after-tax money, but you *also* pay income tax on it when you take a withdrawal.
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