BORROWING FROM 401(K) PLANS COULD BE A BIG MISTAKE

July 17, 2008

Borrowing against a 401(k) may seem attractive, especially in today's economy.  Yet most employees don't realize that borrowing just $30,000 from their 401(k) plans could cost them as much as $600,000 in retirement income.  The National Center for Policy Analysis has developed a calculator that shows just how expensive 401(k) withdrawals can be. 

The NCPA 401(k) calculator shows, for example, that withdrawing funds from your 401(k) now is typically not worth the tremendous amount of money you forego for your future retirement security. The calculator clearly demonstrates the impact of borrowing from a 401(k) plan, and can help determine how much a loan will cost in terms of lost savings and investment opportunities:

  • Imagine a 35-year-old worker who borrows $30,000 over a five-year period, with monthly payments of $583.
  • Assuming no pretax contributions are made during the loan repayment period, if the account were earning a market interest rate of 6.25 percent, he would have $192,794 less at retirement (age 67) than if he had not borrowed.
  • If his account were earning a market interest rate of 10 percent, he would have more than $646,200 less at retirement than if he had not borrowed.

Even in extreme situations, it's best for people to seek other sources of capital before tapping into their 401(k) accounts, says Pam Villarreal, a senior policy analyst with the NCPA, who recommends that before employees touch their 401(k) plans, they access the NCPA's borrowing calculator in order to:

  • Make annual comparisons of projected 401(k) balances, with and without a loan, from the year the money is borrowed until the year of retirement.
  • Compare monthly income at the time of retirement, with and without a loan, based on a 30-year fixed annuity.

Source: "401(k) Borrowing Calculator," National Center for Policy Analysis, July 17, 2008.

 

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