Should You Withdraw From Your 401(k)?

Thinking about withdrawing from your 401(k) plan? You may want to borrow from it instead.

Depending upon your plan’s administrator, there are two ways to tap into your 401(k): a loan or a withdrawal. Neither of these should be entered into lightly, but if you must (and I mean MUST) access the money it is best to borrow against the funds instead of withdrawing. Here’s why:

Photo by mujitra, courtesy of flickr

Taxes - Withdrawals from 401(k) plans are subject to taxes. Loans from your 401(k) plan are subject to taxes ONLY in the event of default.

Penalties – Since 401(k) plans are supposed to finance your retirement, you may be penalized for withdrawals made before you are 59 1/2 years of age. The early withdrawal penalty is 10 percent. Take a look at some exceptions to the penalty.

While a loan is better than an all-out withdrawal, there are some things to be mindful of when considering a loan from your 401(k) plan:

Can you pay it back? Repay this loan as promised! If you take too long to repay (usually you are given five years), your borrowings could be treated as a withdrawal. You will have to pay federal and state taxes plus the early withdrawal penalty.

Is your job safe? If you are concerned about your job, you may need to reconsider a 401(k) loan. In the event of job loss, you are typically required to repay the loan within 60 days. If you fail to repay, the loan will be taxable.

Remember: all loans will cost you. For more information on loans from 401(k) plans, here is a good article from MSN Money with some pros and cons of 401(k) loans.