Should I take a loan from my 401(k)?
Your 401(k) plan is money meant to be used in retirement. Most financial advisors say that borrowing from your retirement plan should only be considered as a last resort, after considering all other options. Most people aren’t saving enough for retirement, so borrowing against your 401(k) will only delay your future plans. These are both true almost all of the time.
In hindsight, we know it’s best to avoid getting caught in these situations by having an adequate emergency fund to cover these expenses. However, sometimes we find ourselves in extreme situations like these:
You have a medical emergency.
You may have a medical emergency and have to meet your health insurance deductible before your plan benefits kick in. If you don’t have enough money in a health care FSA (flexible spending account), HSA (Health Savings Account), or other savings, a loan from your 401(k) plan may be a reasonable option.
Your credit score prevents you from borrowing for urgent needs.
If your credit score is low it can impact your ability to obtain a competitive interest rates on loans. If this is the case, and your cash need is truly urgent, your 401(k) plan may offer a loan at a significantly lower rate because your credit score isn’t a factor for loan eligibility.
High interest debt is working against your long term financial goals.
If you are focused on paying down high interest debt like credit cards, or personal loans, you may consider reviewing your 401(k) plan to see what interest rate is offered and if you have enough vested to borrow.
It’s not a good idea to use this as a way to buy time or put off dealing with your credit card debt. As with any consolidation or balance transfer this only works if you have a plan to aggressively pay down the new loan as quickly as possible.
Ask yourself these questions before proceeding.
- How does it impact my 401(k) long term?
- How will it impact my take home pay?
- Will I still be able to make my other payments?
- How will it impact my taxes?
- What happens if I change jobs?
As you can see, these cases are specific and situations that can best be avoided by building an emergency fund and getting your finances in order. However, if you find yourself in this situation now, don’t be afraid to chat with a BrightDime coach. We are here to help you navigate tough times, and help you make the most of your resources.