Every individual keeps an emergency fund that can be drawn out when they face any unplanned expenses. But most often a shortage of cash flow happens during one’s requirement. For some people savings in the 401k loan is their biggest financial asset for retirement. Discussed below are the reasons for taking a 401k loan.
Easy And Fast Option:
In most of the plans of 401k, a loan request can be made easily and very fast rather than going for a loan from a commercial lender. It requires no long application or even check of credit history. It normally never generates any inquiry against your credit and affects the credit score.
There are many of these loans that will let you make loan requests with the help of few clicks on an online portal. One of the innovations that have been adopted now by some of the plans is the use of a debit card through which several loans can be applied in small amounts instantly.
So there are no qualifying needs to take a 401k loan. This will help those employees who may never qualify for any commercial loan based on their credit score or present financial status.
Flexibility During Repayment:
For most of the loans taken from 401k, an amortizing repayment schedule of 5 years is usually specified by regulations. But you can repay the loan faster without any paying any penalty for prepayment. Most of the 401k plans will allow loan repayments to be made easily through some payroll deductions.
The plan statements will show credits to your 401k loan account as well as your principal balance that is remaining similar to a regular loan statement of a bank.
So if you take a loan to purchase a home, you may have till 10 years to make the repayment along with interest. Loan payments will be deducted from the paycheque, thus making repayment convenient as well as consistent.
If a huge financial setback has affected you and has declared bankruptcy, then there will occur a drop in the credit score. This will make it tough to avail credit at reasonable rates.
In situations, where a very low credit score will lead to the rise in the rate of interest such as 2-4% higher than the normal rates, 401k loans will provide you with a less costly option.
But remember this that the interest that you will be saving by selecting a 401k loan over any other bank loan will still not balance the earning loss from taking your money out. You may also face penalty tax for making use of the funds.
The rate of interest on a 401k loan will be lower than those loans that you could have obtained through a commercial lender or a credit card, making repayment of loans cheaper.
Beneficial For Retirement:
When you make repayments to the 401k loan account, the repayments will be allocated back to your investment’s portfolio. You will be repaying a little more than you borrowed from the 401k loan and this is because you have to pay the interest.
The loan will produce a neutral impact on an individual’s retirement if any of the lost earnings from the investments match the paid interest that is earning opportunities are balanced by each dollar through interest payments.
If the paid interest exceeds any lost earnings made from the investments, opting for a 401k loan will actually increase the process of retirement savings.
If purchasing a home or financing your education requires you to borrow from a 401k loan then it will be worth considering under some circumstances. For the homebuyers, the period of repayment is extended often.
For education, it means investing in yourself. So higher earnings come from it, you can save a huge amount for your retirement. You only need to be sure that the investment, be it a house or an advanced degree is very close to a proposition that cannot be missed.
Always have a good feeling regarding your employment situation before borrowing from a 401k loan. If you leave or lose your job, you have to repay the balance of the loan within 2 months. IRS will also label that money you have taken out as an early withdrawal.
This means a 10% penalty will hit you and you will owe some income taxes on that amount. You need to take into consideration the projected income during the 5 years period of loan repayment.
Payments from a 401k loan are mostly taken after tax-basis out of paycheque. So be sure that you will be able to continue without that money taken from the take-home payment.
So it may be difficult to focus on your future when you currently face financial pressures. So just stand by your decision of borrowing from a 401k and avail it.