Borrowing from Your 401(k): When Is It a Good Idea?

There are times when tapping into your 401(k) actually helps.

While some financial experts admonish people from borrowing from their 401(k) and consider it as an act of fiscal insanity, there are times when taking this route can be the most appropriate thing to do.? In fact, according to the data collected by the Employee Benefits Research Institute (EBRI), nearly 20% of all 401(k) participants had dipped into their balance. So, when should you consider taking a loan from your 401(k) ? and when should you not? Here are some things you definitely need to know.

Understanding the Basics
A 401(k) loan is not a loan in the strictest sense of the word since it does not involve a lender or an evaluation of your credit. It merely refers to the ability of accessing a portion of your retirement plan money. You can access 50% of your balance or $50,000 (whichever is lower) for your intended purpose and repay the full amount to restore your 401(k) plan to its original state.

Any interest charged on the outstanding loan balance goes directly to the participant’s 401(k) account so there is really no borrowing cost involved in the process.

When Should You Borrow from Your 401(k)?
Borrowing from your 401(k) can be justified under these circumstances:

You have no other options. You should only consider accessing your 401(k) when you have exhausted all other options, including your home equity line of credit. Only when you have no more money left to buy groceries or keep the lights turned on should you consider turning to your 401(k). Don’t worry so much about your credit card bills or medical bills, or the money you owe from other creditors. You can always try to work out an arrangement and offer to pay them over time.

You have difficulties getting credit at affordable rates. Getting a 401(k) loan may also be advisable for people whose credit score has nose-dived as a result of a short-sale or bankruptcy. However, please be advised that the interest you save may not be enough to compensate for the earnings you stand to lose from taking the money out of your retirement account.

You will be using it for a smart investment. In some cases, taking a 401(k) loan can also be justified if you are purchasing a home since homebuyers are usually offered extended repayment periods. You can likewise consider tapping into your 401(k) if you are investing in a business or advancing your education.
These are some of the circumstances where borrowing from your 401(k) can be a good idea. However, if you merely need some money to keep up with your current lifestyle, then don’t even consider it. You may be risking your future by doing so.