How and why to borrow from your 401(K) or IRA
This is Part 2 of a 9 part series focused on educating others on retirement accounts, alternate means of investing with these accounts, and ultimately how we can provide multiple forms of investment opportunities with these accounts within our business in which you can attain high rates of returns at substantially low risk.
Borrowing from your 401(k) or IRA for the purpose of investing outside the stock market is becoming relatively common, even “popular” among Americans. The reason behind this rising trend is that you have access to capital that otherwise wasn’t available to you. To take full advantage of these benefits, you need to understand how the borrowing process works for your 401(K) or IRA.
- First of all, you need to know if your retirement plan allows a loan and, if so, under what circumstances you can borrow. If investment is one of them, you can go ahead with your investment plans. By law you can withdraw up to $50,000 or half the accounts value, whichever is lower, as a loan.
- Determine what the set interest rate is for your loan. “Borrowing”, rather than “lending” from a retirement account requires a scheduled repayment plan. If your account is a 401(K), the interest rate will be determined by your employer. The payment period will also vary according to the policies of the company employing you. (We will cover the aspect of “lending” from your account in another blog.) You pay interest to yourself which may be better than borrowing from a traditional institution but you will be repaying the amount with taxed earning rather than pre-taxed.
- Determine your employer’s, or account administrator’s, required method of repayment. Usually, it is monthly deduction from your paycheck for 401(K)’s. An IRA will most likely be an automated withdrawal from a checking or savings account.
- If borrowing from a 401(K), inquire as to how the plan will handle the remaining balance of your loan if you decide to leave for another job, retire, or are laid off. In some cases, the outstanding balance of a loan will be treated as though it were an early distribution and you will be required to pay penalties and taxes on it. This is an issue you will want to give serious consideration before moving forward.
- If you are planning to leave a job where you have a 401(K), or have one with a previous employer, you should consider rolling it over to an IRA, or self-directed IRA, where you will have much more freedom to use your money for your desired investment purposes.
Why to borrow from 401(K) or IRA
- Getting a loan against your 401(k) is really easy. It generally requires a few clicks on a website. And, you get the check within a few days.
- No credit checks are required. In most cases, it does not affect your credit rating.
- No prepayment penalties.
- You pay a competitive rate of interest that you pay to yourself. After all, money in your account only belongs to you.
- If you have a great investment opportunity, you should not miss it just because the majority of your capital lies outside of your savings account. Remember, the stock market has no accountability for your losses, the company controlling your money retains roughly 80% of the profit, and you will probably know much more about the investment you’re planning to make with the money you borrow than you know about the places your retirement account is currently invested in!