Taking out a 401k loan to pay down debt

[pitbull88]

As part of my preps, I need to get out of financial debt.

So, a "friend" has some significant credit card debt. This friend can pay off this credit card debt by taking out a loan against his 401 plan. What this means is that the friend will have to pay back into his 401 to pay off the 401 loan. The interest paid on the 401 loan goes back into the 401 as well.

What's the down side here? The interest on the 401 loan is much lower than interest on credit card. The interest paid on the 401 loan goes to my own 401, not to the banks as in credit card interest.

All of my 401 is tied up in paper instruments (stock). If the market crashes, much of that value would be lost anyway, and if I didn't take out the loan, would still have the credit card debt.

My job is very secure.

Should I or shouldn't I?

 

[Bisbobble]

My opinion, NO.

Moving debt from one place to another is not paying it off!

I don't care who your are paying the interest to, the goal should be to pay NO interest. The bad taste in your mouth from giving a bank your money should be a lesson no to do that in the future. Pay the interest and learn the lesson.

Unplugging money from an investment account also "costs" you money. Leave it alone.

If for some reason, you don't pay it back, now you are stuck with a tax penalty as well. Don't mess around with the IRS, deal with banks.

In summary, NO.

 

[patience0830]

As part of my preps, I need to get out of financial debt.

So, a "friend" has some significant credit card debt. This friend can pay off this credit card debt by taking out a loan against his 401 plan. What this means is that the friend will have to pay back into his 401 to pay off the 401 loan. The interest paid on the 401 loan goes back into the 401 as well.

What's the down side here? The interest on the 401 loan is much lower than interest on credit card. The interest paid on the 401 loan goes to my own 401, not to the banks as in credit card interest.

All of my 401 is tied up in paper instruments (stock). If the market crashes, much of that value would be lost anyway, and if I didn't take out the loan, would still have the credit card debt.

My job is very secure.

Should I or shouldn't I?

Can you cut up the cards and never use them again? If you can you might consider it.
You might also consider paying the minimum until the SHTF then just default on the c/c.

 

[42769vette]

Personally I would rather pay interenst to myself vs a credit card company. Its not paying off your debt, but its a benifical move.

 

[Hoosier8]

It is not beneficial for your 401K.

 

[rockhopper46038]

Hmm. Here are some thoughts. Make of them what you will. Yes, the interest rate on a 401(k) loan is usually very low, and the interest goes back into your account. That's a plus. The money that has been loaned out of the 401(k) account will not experience the investment results it would have, had it not been borrowed. This could be bad (if the investment performs well) or good (if the investment performs poorly). The credit card debt has an interest rate generally much higher than the 401(k) loan, but it may or may not be higher than what the 401(k) investment may return. The 401(k) loan becomes due (in almost all cases) if you leave your job. If you don't have the ability to pay the loan back in an emergency it can become a very expensive loan, as you will owe taxes and an eay withdrawal penalty on the loan amount. I use 401(k) loans myself as a hedge, so I certainly think they have their uses. Most advisors advise against taking the loans as few people diligently pay "themselves" back, and most run up their credit card debt again after "paying it off".

 

[42769vette]

It is not beneficial for your 401K.

How so, your 401k is collection interest on your debt vs a credit card company collecting interest.

Plus the interest rate on the 401k is lower than the interest rate on your credit card. This lowers your overall bills, and leaves you more money in your pocket each month that you can apply to the debt.

 

[92ThoStro]

End of the world.
Don't want to get there and have credit card debt.

 

[ashby koss]

It really comes down to when you want to lose money. Out of pocket now, or later in life. Over all you'll lose more money by taking out of your 401K due to economics of inflation and investments. Lost investment $ over time. Not to mention if your selling to pull out of 401k then your going to pay more later to get them back (most likely).

Best to sit still make extra payments where needed. (read: Dave Ramsey Rice and Beans)

 

[SideArmed]

The first question you need to ask (IMO) is how long are you looking at holding the 401(k) loan? Are you goitn to pay it back in a relatively short amount of time? Or are you going to make the monthly payment and thats it?

If you are going to be aggressivly working on paying either of the debts off, then it is benneficial to read rockhoppers and make an informed decision on which route to go. It can be benneficial to use your 401(k) but the down side is you could be reducing your retirement fund in the long run.

Oh and the whole "Paying the interest is your penelty, or Idoit Tax" thing up there, is nonsense. Don't listen to that kind of talk. Good on you for trying to get out of debt, I am and have been working on it for some time now. It can be a long road, just don't forget your priorities, and you will come out on top.

 

[Turf Doctor]

Never borrow from a 401k unless you need it to keep a roof over your head.

www.daveramsey.com

Debt is dumb and cash is king.

 

[KJQ6945]

I have never borrowed from my 401k to pay off debt, but I can understand your logic. My rule for borrowing from it is this. If I can make more money by buying something that I'm relatively certain will appreciate, it's a go. For example, starting the day after the election, evil black guns, mags, and ammo were acquired with 401 funds.

Nobody in the investment world would advise you to do this. People in the investment world are trying to sell you something, not make you money. If I could have taken my entire 401k out I could have doubled it.

Paying off debt is always a good idea. Using your 401k to do it may or may not be a good idea. Your borrowing from your retirement to pay bills. Once you take it out of your 401k it's not growing, and you didn't invest it in anything else.

Challenge yourself to see how fast you can pay off the debt. Cut back on non-essentials, and pay the cards off one at a time. 401k's are for investments, not debt.

 

[TiminMishawaka]

Absolutely you should. A debt to yourself is vastly different from a debt to a bank. Once you do this, don't get back into consumer debt though. Good man for seeing that finances are part of prepping.

As an aside I'd like to know whose 401k accounts are making returns equal to the interest rate on credit cards.

 

[Dave Doehrman]

It depends on how close you are to retirement. The closer you are to retirement, the more sense it makes to borrow from your 401K. Once you reach the age limit, you won't have to pay the penalty on the withdrawal if you don't pay it back or loose your job. You will still have to pay the income tax on the money you withdraw.

If you are younger and have a long time until retirement, it is very unwise. You will loose all the interest that would have compounded on that money for 40 or 50 years. A small withdrawal now will result in a huge loss of potential income later in life. Most people who take loans also reduce their contribution to their 401K in order to pay back the loan. Again, it can result in huge losses later.

My suggestion would be to "bite the bullet" and make some lifestyle changes to enable you to pay off your credit card debt and leave your 401K alone. Cut up the cards and don't charge another penny until you can manage your finances and pay off you credit card payments EVERY month.

 

[rockhopper46038]

Absolutely you should. A debt to yourself is vastly different from a debt to a bank. Once you do this, don't get back into consumer debt though. Good man for seeing that finances are part of prepping.

As an aside I'd like to know whose 401k accounts are making returns equal to the interest rate on credit cards.

<-----This guy.

 

[JoshuaW]

Have you double checked the fees associated? The fees where I work are designed to be high enough to discourage people from doing this. You need to borrow ~$7500 in order for it to be worth it. A personal loan from a credit union is also a possibility, if you have good credit. I moved some of my credit card debt to a 7% personal loan, and a few months later (after my credit improved from lowering utilization) I was able to open up a Chase Freedom card with 15 months no interest, so I moved the remaining bit over.

401k isnt a bad option, but talk to someone and make sure the numbers make sense. Some banks and credit unions have financial planners you can talk with for free or very cheap.

 

[CountryBoy19]

My opinion, NO.

Moving debt from one place to another is not paying it off!

I don't care who your are paying the interest to, the goal should be to pay NO interest. The bad taste in your mouth from giving a bank your money should be a lesson no to do that in the future. Pay the interest and learn the lesson.

Unplugging money from an investment account also "costs" you money. Leave it alone.

If for some reason, you don't pay it back, now you are stuck with a tax penalty as well. Don't mess around with the IRS, deal with banks.

In summary, NO.

I don't think you fully understand this...

Personally I would rather pay interenst to myself vs a credit card company. Its not paying off your debt, but its a benifical move.

This ^^^ especially if the interest on your outstanding debt is higher than the rate of return on your 401k

It is not beneficial for your 401K.

Depends, see below...

It really comes down to when you want to lose money. Out of pocket now, or later in life. Over all you'll lose more money by taking out of your 401K due to economics of inflation and investments. Lost investment $ over time. Not to mention if your selling to pull out of 401k then your going to pay more later to get them back (most likely).

Best to sit still make extra payments where needed. (read: Dave Ramsey Rice and Beans)

Not always... it may benefit you to take a loan (which is very, very different from taking your money out and paying the penalties) to pay off higher debt if the markets have stalled out. The markets lately have been a bit stagnant and I don't expect them to be going up a whole lot more. Honestly, this question depends on how much his 401k is making and what the rate on the debt is.

Never borrow from a 401k unless you need it to keep a roof over your head.

www.daveramsey.com

Debt is dumb and cash is king.

Dave Ramsey, while a smart man, is selling a product and he isn't the be-all, end-all of financial advise. He is there to coach people that have finance problems or don't understand finance very well. For many his information is very dumbed down. It's great for the beginner where too much, in-depth talk will confused them. This topic is in-depth.

 

[ar15]

If you do decide to take from 401k, be prepared to face the tax fees and other penalties. There are down sides. I would hate to see you wait to pay the taxes until the following year...it can get nasty with the IRS.

 

[jblomenberg16]

Good discussion so far.

The big disadvantage of borrowing from the 410k is that you lose the compounding interest effect meaning your 401k would grow more slowly than normal (assuming you are getting some + rate of return).

Clearly credit cards also have compounding interest as well, so the question is if the credit card debt is currently shrinking, or not.

I question borrowing from the 401k also in that it means additional cash out of pocket to pay back, so less money for day to day expenses. If the person is in this much credit card debt already, can they afford a reduced paycheck? Will they be tempted to not pay the 401k loan back as quickly, if at all?

My advice is to look at all other means first (garage sale, 2nd job, etc.) to try to make extra cash to be able to pay of the credit card. The Dave Ramsey snowball effect is also a good way, but takes some time when the debt is large.

 

[EvilElmo]

Can you cut up the cards and never use them again? If you can you might consider it.
You might also consider paying the minimum until the SHTF then just default on the c/c.

I think this is the make or break question. If you can borrow from the 401, wipe out your existing CC debt, and be certain you won't accumulate any more CC debt, then I think it makes sense. The interest rate is lower and you're paying it to yourself. If you're just trading one debt for another and will build up the credit cards again then absolutely not.

IMHO, a better alternative, if you have the option, would be a home equity loan or line of credit. The interest rates there are far lower than either of the previous options and it leaves your 401 out of it.