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URL:  https://boards.fool.com/the-downside-of-401k-loans-31620604.aspx

Subject:  The downside of 401k loans... Date:  2/10/2015  8:48 AM
Author:  jeffbrig Number:  309007 of 312956

Asking for a friend.... j/k

DW and I bought a house last year, and took out a 401k loan to help pay for some remodeling. Figured we'd be fine to pay it back over a few years. Without getting into too many details, we're quite likely going to have a change that requires us to repay the 401k loan, or count it as a disbursement in 2015. So, I'm weighing my options and would welcome input. No need to second guess our choice to take out the 401k loan, other than to let this be a warning to others. ;)

-We don't have enough liquid reserves to comfortably repay the entire loan. If we did, we wouldn't have taken the loan (obviously).

-We're solidly in the 28% bracket, and counting the loan balance as income would push us a bit into the 33% bracket. I expect the tax hit (with 10% penalty) would average out to about 40% of the balance if we count the loan as a distribution.

-We do have enough liquid reserves to cover the tax hit if treated as a disbursement. Wouldn't be happy about it, but we could do it if needed.

-We could take out a HEL to satisfy the loan and avoid a tax consequence. Payment terms would be similar, but we'd be paying interest to the bank (4.5-5%).

-We could take money from another 401k to repay the loan. Avoids tax consequence, but the repayment terms would be shorter, meaning a higher monthly payment. This would probably force a reduction in 401k contributions while in repayment. Which I guess technically leads to some additional tax paid, but at our marginal rate, rather than a penalty rate.

-We're pretty unbalanced as investors, with 90%+ of our assets in 401k accounts. A lot of our non-401k money went into the house purchase/reno last year.

So I'm in a quandry, and admit I haven't fully thought through the scenarios yet. Our options are to shift the loan to another 401k, shift the loan to a HEL, take the tax hit, or some blend of the three. I'm just not sure which one leaves us in the best position next year, or 5, or even 10 years down the road.

DW has opined that she's willing to take the tax hit, as she doesn't think the total cost is that much higher than the total cost of a HEL over a 10 year term. Not sure that I agree, but I haven't done the calculations to back it up yet.

Also, FWIW, we have both contributed the maximum to our 401k accounts for years. We're in our 30s, and have accumulated about $500k there.
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