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http://www.nytimes.com/2013/08/17/your-money/one-dip-into-40...


One Dip Into a 401(k) Often Leads to Another
By TARA SIEGEL BERNARD
New York Times: August 16, 2013


Some people can’t seem to stop at just one.

After workers borrow money from their 401(k) retirement account, they may find that it becomes easier to come back for another loan — and perhaps even another. And yet another one after that.

Fidelity, which houses the 401(k) plans of more than 12 million workers, recently studied the behavior of these so-called serial borrowers. It found that this sort of repeat borrowing can put a serious dent in long-term savings, especially if the employees cannot continue to save as much while they pay the loan back. ...

The government does not take a 10 percent penalty on the amount borrowed, as it does when a person cashes out of a 401(k) before retirement. ...

... Serial borrowing can permanently impair your long-term savings. The money is no longer invested, so you may lose investment earnings. (When you borrow from a 401(k), the money is taken from your account, without penalty, and you pay yourself back with interest, typically through payroll deductions.) ...You’re typically required to pay the loan back in full within about 60 days of leaving an employer....
[end quote]

Does it make sense to borrow from a 401(k)? That depends upon the circumstances.

Wendy
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I borrowed from my 403b (I work in a hospital) when I closed on my house 2 years ago (I can't believe it's really been 2 years already). I have since paid it back (I left that hospital last month so it's a good thing my plan had been to back it back as quickly as I could). I do not see me doing it again. It annoyed me to see that loan amount deducted from my balance. I am not ashamed to say I log on frequently to see my new "back to where it should be" balance. I much prefer that number for retirement savings.

Michele
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(I left that hospital last month so it's a good thing my plan had been to back it back as quickly as I could)

I must have missed the memo.

Nancy
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this sort of repeat borrowing can put a serious dent in long-term savings

I wonder how much of that is really the impact on not being invested, and how much is the impact of serially spending money that isn't there yet. Would it be any better to serially borrow from some other source?

Disclaimer: Yes, I realize there are situations where borrowing is the best answer. I'm focused on the "serial" aspect, which implies either some really bad Life Happens stuff or a lack of control of spending. Either of those are bad news for net worth, regardless of how the money is borrowed.

Patzer
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No you didn't miss the memo. I missed putting out one. :( partly because I'm not doing wound care & after I made such a big deal of passing those boards it seemed anti climatic. However I'm at a hospital that's 10 miles from home so only a 20 minute commute (down from 33 miles & 70-80 minutes). I'm doing case management there. I'm really happy with my new coworkers & everything else. Hopefully some opportunity to do wound care on the side or something (nothing full time up this way at all which is why I stayed in case management). But it was the best move for me & I don't regret it.

Michele
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Also, even though this is my 7th or 8th week there, it's only really setting in that this is my life now. From doing clinicals so much, I just kept feeling this was temporary & I'd be back to my former hospital soon enough. Plus I didn't want to jinx it. Now I know this is it. It may not seem so since I didn't shout it from the rooftops but I'm in a good place. Much less stress, on me & my car.

Michele
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Does it make sense to borrow from a 401(k)? That depends upon the circumstances.

Well, if your crystal ball is working, borrowing from your 401k is a nice hedge against a bear market. I wish I'd borrowed about $200k in late 2007, lol. Assuming you keep the borrowed funds to repay the loan, you preserve capital, and add extra funds in the form of interest.
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Now I know this is it. It may not seem so since I didn't shout it from the rooftops but I'm in a good place. Much less stress, on me & my car.

Less stress is always a good thing! Good luck in the new job :0) A dear friend of mine was a pediatric nurse practioner for close to 20 years. Last year she chucked it in, worked as a barista for about 6 months and then landed a job as a case manager in Knoxville. She's much happier and way less stressed!

LWW
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Well, if your crystal ball is working, borrowing from your 401k is a nice hedge against a bear market.

401Ks offer fixed income investments. You don't need to borrow against a 401K to hedge against a bear market.
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401Ks offer fixed income investments. You don't need to borrow against a 401K to hedge against a bear market.

The bear market in 2008/2009 hit fixed income markets, too. After the Lehman bankruptcy, there were fears that a lot of other companies were going to default on their debt, too.

I bought several fixed income investments below par in 2009 and have realized nice capital gains on several that have been called. The sellers of those investments could very well have been managers of investments available in 401(k)s, since some of the investments I bought appeared to occur when large blocks of a particular fixed income investment were being sold - possibly to meet redemption demands.

I actually borrowed from my 401(k) at that time, in order to help facilitate buying some of those investments, because they weren't available in my 401(k).

AJ
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Congratulations on finding a job with a gentler commute!
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I would have to be in extreme dire circumstances to borrow money from my 401K. I just overall think of retirement savings as untouchable. I think if people are having cash flow problems, it's better to suspend contributions to a 401K and see if they can get caught up on their monthly cashflow, instead of actually withdrawing funds from a 401K.
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One of my friends has 2 loans in his 401k he wishes he didn't have but then he filed bankruptcy now has a car he can't afford but a roof over his head that paid for.
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The 401k plan im in imposes a $3 monthly fee for having a loan with them on top of a 12% interest you pay back and you can't pay extra on it. Also theres a $50 fee just for getting the loan!

Sunwest federal credit union 7.99% fixed rate signature loans much cheaper and not line Schwab pocket full of fee
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The 401k plan im in imposes a $3 monthly fee for having a loan with them on top of a 12% interest you pay back and you can't pay extra on it. Also theres a $50 fee just for getting the loan!

Sunwest federal credit union 7.99% fixed rate signature loans much cheaper and not line Schwab pocket full of fee


It isn't possible to pay additional amounts on a 401K, but the entire remaining balance can be paid. This isn't a restriction unique to Schwab.

$3 monthly fee and $50 initiation fee aren't unreasonable management fees. The interest payments don't go to Schwab.

If the borrower can qualify for a signature loan, it is probably a better choice.
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My friend couldn't get a bank to refi his car. He's upset. He can't take anymore loans out. He's tempted to take a loan with Western Sky Financial. I told him to stay the hell away from that bad company. You get $$$$ screwed. I told my friend to apply at US Bank for a personal loan maybe they give you 29.99% interest loan but beats Western sky rate of 343%.
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The 401k plan im in imposes a $3 monthly fee for having a loan with them on top of a 12% interest you pay back and you can't pay extra on it. Also theres a $50 fee just for getting the loan!

But the 12% is going back into your 401(k) plan, not to Schwab or any other lender. For $36/year and a $50 initial fee, it might be a good way to actually get more money into retirement plans, assuming the borrower could afford both the loan payments and contributions to the loan.

If the borrower were to put the money received from the loan aside (in a savings account, not investng or spending it), so that they always have money to pay off the loan if they leave their job, then they could put more money into their 401(k) plan than they had borrowed, at a 12% rate. It's actually an interesting concept, assuming that the borrower has the cash flow to afford it. There have been several years when I would have loved for my 401(k) plan have a 12% return.

AJ
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then they could put more money into their 401(k) plan than they had borrowed, at a 12% rate. It's actually an interesting concept, assuming that the borrower has the cash flow to afford it.

The double taxation on 401K interest payments makes this less desirable.

It isn't a issue when comparing a consumer loan to a 401K loan, but if using a loan to contribute more to a 401K, it is a consideration.
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The double taxation on 401K interest payments makes this less desirable.

Double-taxation on interest is a red herring. Taxes are based on income. Taking out the loan has no impact on your taxable income. Paying interest on the loan has no effect on your taxable income. So, you pay no more (or less) in income taxes than if you didn't take out the loan, all else being equal. Similarly, you pay no more or less in taxes is paid in any year you pay interest on the loan.

While technically, you will pay taxes again on the same money at withdrawal, if you would have withdrawn the same amount whether the additional money was in there or not, there is no change to your taxes, so again, no extra taxes are paid. If RMDs force you to take more out of the account since the balance is higher because of the additional money that was put in - you will still end up with more in your pocket than if you hadn't had to pay those taxes, at least until we get to a marginal 100% tax rate. Even at the top Federal tax rate of 39.6%, plus the Medicare unearned inocome tax of 3.8% plus the top state tax rate (CA) of 10.3%, you get to a maximum marginal tax rate of 53.7%. (And you would have to be earning $1,000,000 in taxable income in CA (in retirement) for those rates to kick in. Evem so, you would still have an additional 46.3¢ out of every extra dollar you were forced to withdraw because of RMDs. So, net-net, you would not end up being worse off because of 'double-taxation'.

Because you don't end up being worse off due to 'double-taxation' on interest, it's a red herring.

AJ
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Because you don't end up being worse off due to 'double-taxation' on interest, it's a red herring.

AJ


It is a red herring when comparing a consumer loan to a 401K loan. It isn't when considering using a loan to increase the amount of contributions to a 401K.

I don't have time now for a rebuttal. I will work on it later. Your example doesn't consider the after tax investing compared to 401K contribution.
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My friend couldn't get a bank to refi his car. He's upset. He can't take anymore loans out.

Does he understand the relationship between the first and third sentence?
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Debt consolidation is a typical reason people consider borrowing from a 401K. The idea being that the money borrowed from the 401K is immediately used for the purpose of paying off or down nasty debt. As Wendy concluded it probably depends on the circumstances, but I agree with you Metrochick that to borrow from a 401K because of cash flow problems is pretty drastic if not daft. Even if paying off or consolidating expensive debt is the motivation for borrowing from a 401K, its considered a last resort behind other options. Here's a link to a summary that may help anyone contemplating such http://www.debtconsolidationloanscompanies.com/debt-and-cons...
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Don;t you get taxed at like 25% on the monies you borrow?
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Don;t you get taxed at like 25% on the monies you borrow?

There are no taxes on a 401K loan. If the loan isn't paid back, the loan become a distribution which is subject to income taxes and possible early withdrawal penalties.
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Don;t you get taxed at like 25% on the monies you borrow?

Not when you borrow - only if you don't pay it back. And since most 401(k)loans require payments to come out of your paycheck, before you can get to the money, as long as you remain working at the job that's associated with the 401(k) plan where you took out the loan, there's very little chance that you won't pay it back.

The problem comes when you leave your job, either voluntarily or involuntarily. And it can actually be a lot worse than 25%. Many plans require that you pay back the balance of the loan within a short period of time (often 30, 60 or 90 days) after leaving employment, or the remaining balance on the loan will become a distribution, and will be taxed at your marginal rate, plus a 10% penalty if you are younger than 59 1/2, for the federal taxes. At current federal rates, that could be up to 39.6% for your marginal rate, plus 10% in penalty. Then if your state has income taxes and penalties, you would also get hit with another, say 10% in taxes and penalties. So all in, you could be taxed close to 60% of the distribution amount.

AJ
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