Times are tough-there is no doubt about that. If you have a retirement account that you are able to “borrow” from you may find yourself tempted to do just that to make it through a financial hardship. Unlike a savings account you are required to repay your 401(k) or face stiff penalties. Many people can and do borrow and repay retirement loans yet here are a few reasons why “borrowing” from your retirement should be your last resort.
You will still have debt. There are many reasons why borrowing from one place to pay off debt in another is not successful. Granted in some instances -if you can grossly lower your interest rates AND you actually pay off the debt you may come out ahead, but that is not often the case. If you borrow from your 401(k) you may be able to reduce high interest debt but you must still pay back the borrowed money. The only thing you change is the interest rate and who you owe. Since there are other negatives to borrowing from your 401(k), reducing debt is likely not strong enough to offset these negatives.
Your will put your retirement account on hold. Until you repay the amount you have borrowed you will not be able to contribute to your retirement account. If your regular contribution is $400 per month and it takes you two years to repay your loan, you have missed out on $9,600 of retirement contributions in addition to the interest you would have earned.
Leaving your job will cost you. And it will cost you big time! If you leave your current job you will be required to repay the amount you borrowed in full within 60 days or pay the taxes and penalties of an early distribution.
You could end up in a higher tax bracket. Many people take advantage of being in a lower tax bracket due to their retirement contributions. If you take out a 401(k) loan your payments are taken out post-tax and cannot be claimed as a tax deduction.
You might end up worse than you started. If you are experiencing a true financial hardship, perhaps risk losing your home or your job you do not want to throw good money after bad. Unless you can truly see the end of the hardship in the near future you are better off leaving your retirement money where it is and exhausting any other options available to you. If you try to save your home and fail, you have not only lost your home but also any money saved for retirement. If you withdrawal money to repay debt yet end up filing bankruptcy you have again lost money that otherwise could have remained safe for retirement.
If you find yourself considering withdrawing money from your retirement account it would be wise to thoroughly investigate your options, research the penalties and consider any other available remedies before you risk losing your hard earned money.
Trisha Wagner is a freelance writer for DepositAccounts.com where you can compare rates of deposit accounts from dozens of banks in one place. Trisha writes regularly on the topics of personal finance and savings accounts.
image source: sxc.hu