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401k loan payment
I recently changed my job. I had a 401k loan of 11k. As per the company policy, I need to pay the loan in full in 90 days otherwise face a tax penalty. In addition to that the 11k will also reported as an income. Because of this, I am thinking getting a credit card with balance transfer feature or taking personal loan to pay the loan to avoid the tax penalty.

What do you advise me? Which option will be better? I can pay 250 dollars per month either way.

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401k loans are very expensive

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This response is after the 90 day window that you had to take care of this, but 401k loans have a lot of implications when you leave a job, so hopefully this will help others.

As a general rule, I don’t recommend ever borrowing against your 401k loan.  You are mortgaging your future retirement capability and put yourself at risk of suffering significant financial penalties if you find yourself unemployed and unable to pay the loan back.  Commonly you can find better loan options in the open market. 

Remember, the loan rate that you are paying to borrow your own money (even if you are paying it back to yourself) is commonly much lower than the money would be earning by itself in the 401k account.  For example, if your 401k account is averaging 15% returns and you can take out a loan from the 401k at 5%, the cost of using that money is not just 5%, it is really 10%.  This is because when you take the loan out, the money you are borrowing is withdrawn from your investments and is not making any money, the only return is the 5% you’re paying to yourself.  This means that you’re missing out on the other 10% and it’s your money you’re paying the 5% with!  So, you’re paying 5% and you’re missing out on 10% you could be earning.  If you can get another loan for less than 15%, leave the 401k intact.

What if it’s an emergency?  If you have a true emergency and really have to access the money, file for a hardship withdrawal so you get the money and don’t risk suffering the penalties, but keep in mind, you’ll still have to pay the taxes.  If you don’t qualify for a hardship withdrawal, you shouldn’t be taping into your retirement funds at all.

If you take out a loan against your 401k account, that balance will become an early withdrawal if you don’t pay it back.  This means that whatever amount is outstanding will be counted as income and you will be assessed a 10% penalty in addition.  If your case, an $11,000 loan would result in a $3,080 tax bill if you’re in a 28% federal tax bracket and don’t forget that your state will take their bit too if you live where there are state income taxes.  This would hit you for another 1% - 12.3%!  If I had a $11,000 loan against my 401k, I’d have the 10% penalty ($1,100), plus Federal taxes at 28% ($3,080), plus state income tax of 5% ($550) for a whopping total of $4,730.  At those rates, loan sharks become a reasonable alternative.

There are options to get you out of this pickle, but you don’t have much time to act.  Most plans allow only 90 days to repay the loan in full.  Make sure you check with your plan administrator as some may have different timelines and restrictions.

In most cases, seeking another way to finance the loan is preferable.  Even in the worst case scenario if you take a cash advance on a credit card, you can save money over eating the taxes and penalties.  Just make sure that you can make the payments on where ever the debt is moved.

You can get a new 401k loan if you absolutely have to.  Once you move to another company you can move your 401k into your new company’s plan.  As soon as you are able to sign up for the new 401k, start the process to roll over your money from the old plan.  Once your money is deposited in your new 401k you will be able to take the loan out again, depending on the plan rules.  Then you can pay off where ever you parked the debt.

After you get it all settled, pay off that 401k loan and don’t take another one out.  They’re risky and much more expensive than they appear on the surface.

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