What exactly is a retirement savings plan loan? Very simply, it's a program that allows you to borrow from your retirement savings fund to meet critical, immediate cash needs. Then, over time, you pay the loan back with interest. However, unlike a traditional loan, such as a mortgage, the interest you pay is deposited back to your retirement savings plan.
Here is the basic information you should know about a 401(k) loan.
- Loan Amount - Assuming that you haven't taken any other 401(k) plan loans in the last 12 months, federal regulations allow you to borrow up to 50% of your vested account balance, up to a maximum of $50,000. Additional restrictions on borrowing amounts may apply. Please refer to your Plan Participant web site for more information.
- Interest Rate - The interest rate will vary by plan, but the rates most often used are tied to the prime rate. The current prime rate can be found in the business section of your local newspaper or the Wall Street Journal. The interest rate for Access Control Advantage is the prime rate plus a service fee. Please refer to your Plan Participant web site for more information.
- Income Tax and Penalties - The loan is not subject to any immediate income taxes or the 10% early withdrawal penalty unless you fail to repay the loan in accordance with the terms of your plan and applicable law.
- Payment Process - The loan must be repaid at least quarterly, within five years, in order to avoid a taxable distribution from the plan. With Access Control Advantage, you’ll receive a monthly statement and invoice. You can make your payments with automated ACH transfers from your bank account, which will be processed monthly, or you may make your payments by writing a check to ACA.
- Payment in Full - You can always repay your loan in full at any time with no penalties.
- Consents - With some retirement savings plans, you may be required to obtain the consent of your spouse (if applicable) before you can obtain a loan.
- While there is no credit check or credit application, is taking a loan your best course of action?
- The interest rate is typically lower than the rate charged for unsecured loans but do you really need to borrow from your plan?
- Most plans allow you to borrow for any reason, but check your plan's loan policy statement for any restrictions.
- The interest rate you pay yourself on your plan loan might be less than the returns on your plan investments.
- After taking a loan, you may be tempted to reduce or stop your contributions to the plan and thus reduce your retirement nest egg. Make every effort to avoid this. It is not in your best interest.
- Loan defaults can be harmful to your financial health. If you can't repay the loan, it is considered defaulted. Should this occur, the outstanding loan balance will be taxed as current income and you'll incur an early withdrawal penalty of 10% if you are not at least age 59˝.
- Interest on the loan is not tax deductible, even if you borrow to purchase a primary residence.
- There may be fees involved. There could be a onetime loan setup and activation charge, which usually ranges from $25 to $250.
