I am relatively new to investing Foolishly. The bulk of my money, about $8,000, is tied up in my 401K fund. I cannot buy individual stocks there, so the money is in an S&P 500 tracking fund. I have a small Roth fund in which I have been encouraged with the success of eBay and CRA - stocks I purchased with the help of TMF. It has been a little disappointing for me to not have more money to invest in the economy's great companies; but with four children and a modest income those funds are hard to come by. So here's my idea . . .I am considering taking that $8,000 out of my 401K in the form of a loan, and putting it into a Roth for long-term investing. (I can immediately add $3,000 between my wife and I for 1999, and another $4,000 for the year 2000.) I would be paying my 401k back, with interest, over several years, and have the advantage of becoming part owner of companies I select with the help of my Motley Fool brethren.I agree with those in this forum who have advised against borrowing from the 401k for paying off credit cards or other purposes. But I see this as an opportunity to transfer my money from a place where I cannot pick individual stocks to one that I can, with the enhanced potential of returns for my long-term investments. In addition, I like the idea of having that money in an account where Uncle Sam cannot squeeze me for income taxes or capital gains taxes thirty years from now (tax-free Roth vs. tax-deferred 401K).I would appreciate any thoughts you may have on this idea.
I don't think this is a good idea. Do you think you'd make better enough returns on your investments through the IRA to replace 1.) the interest money you'll be paying on the loan and 2.) the employer matching, if you get any? Say you borrow at even the low rate of 7%, and your employer matches 50% of the first 4% of your contributions: you would have to get around 9% MORE return than what you're getting now in order to break even. If you are getting about 9% return in your 401K, that means you'd have to get 18% in the IRA.Also, if you leave your job for any reason before you pay back the 401K, you have to pay another 10% for early withdrawl.Why not just leave the money in the 401K that you have there now, but reduce your future contributions? Keep contributing enough to get all the employer matching (i.e. free money) you can, and then put the rest of the money to the Roth.Or, if you think there may be a possiblity of leaving your job soon, you could move it into a roll-over IRA then, instead of rolling over to a new employer's 401K.
You wrote:Do you think you'd make better enough returns on your investments through the IRA to replace 1.) the interest money you'll be paying on the loan and 2.) the employer matching, if you get any? Why not just leave the money in the 401K that you have there now, but reduce your future contributions? Keep contributing enough to get all the employer matching (i.e. free money) you can, and then put the rest of the money to the Roth.Or, if you think there may be a possiblity of leaving your job soon, you could move it into a roll-over IRA then, instead of rolling over to a new employer's 401K. -------------------------------------------------------Thanks for your reply, Jenniebez. I consider the interest money a wash, since I am paying it to my own 401k. I would not lose any money from employer matching, since that is added along with my new contributions every payday.Your advice on reducing my 401k contribution to the minimum required to take full advantage of my employer matching is a good one; I did that several months ago when I started the Roth. I will continue to add to my Roth incrementally, but would like to put that $8,000 to work right now. It is a bit of a guess as to whether I can significantly beat the S&P 500 fund, but I would be happy to give it a try.Finally, leaving my job and rolling the 401k into an IRA would be great, but I don't plan to leave anytime soon. Unless you know something I don't . . .
Ah, I think I understand a little better now. I thought you were thinking of borrowing money from the 401K, and stopping contributions to it, and using the IRA instead, not in addition to...
to pkrepps,I couldn't agree more with Jenniebez' first reply, and was also glad to hear you're still contributing to both the 401K & Roth! I too would recommend reducing future 401K contributions to fund the Roth (assuming you put in enough to get max employer contribution). I'd leave that 401K as is--do you have any other fund (ie more agressive growth) options in your 401K that might better serve your goals?--and put that would-be loan payment+interest straight into the Roth.cheers! npk
You'll have to check your policy, but mine only allows you to borrow up to 50% of your vested balance. Assuming you are 100% vested that's only $4000.00. Plus, your interest rate will probably be more in the neighborhood of 9.5-10%. Check and see if your provider has an 800 number where you can find out how much you can borrow. Mine even lets you model a loan, tells you how much your interest rate will be, and what the monthly payments will be.jenny
Thought:I would advise any friend against this. Too much stress. Holding volatile stks is stressful, then you are basically 'on margin' additionally.Unless you have an extremely high tolerance for financial stress you will BAIL on your plan, which I admit at first blush is a good one. Just remember to stay fully invested in the market if you can...FoolOnFrank Z.
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