Reference no: EM13752115

Loans and Distributions from a 401k/IRA plan

Last month a friend borrowed from his 401k to pay off his car loan. Interests on his car loan were at 8 percent with about $250 in monthly payments. The idea he said is that, instead of paying the 8 percent interest to the bank, why not take out from his 401k and pay the interest to him when he repays the loan. The 401k loan repayments are about $75 a month with 2 percent going to interest. It makes sense. Reduce your monthly principal and interest payments, and the interest that is paid will go into your 401k.

Not trying to be loan advisers here, but the idea of a retirement plan is to have the money that you put in, make money. The earnings are then added to your contributions to make more money. If you take out a loan from your 401k, your plan loses its ability to make significant investments that will yield a higher return. The longer you wait to pay off the loan also, the longer it will take and the harder it is for your plan to meet your retirement goals.

I guess my question here is, is it wise to borrow from your 401k to pay off personal loans? Especially for young folks who are still very much at the early stages of contributions.

Recent legislation gave first time home buyers the opportunity to borrow from their 401k/IRA for the purchase of their first home. You can borrow up to $10,000 to effectuate the purchase of your first home. This also makes economic sense because you will be buying a property that will likely generate you equity. Again looking down through the barrel to retirement, you want to be able to build your financial strength; the one thing you don't one to do is turn your 401k into a piggy bank.

Question: it makes some economic sense to borrow from your retirement account instead borrowing from the bank. But with retirement the primary reason for setting up the account, is it a good idea to borrow from your 401K/IRA?...considering how much it may hamper the growth of funds in the account