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When facing an urgent and substantial financial need, borrowing against their 401(k) often comes to mind. While account holders can withdraw $50,000 or 50% (whichever is less) from their 401(k) plans without paying penalties, there are major drawbacks that should make you think twice about getting a 401(k) loan.
One con is that if you leave your job or are fired from your current employer, you’ll need to pay back the loan or face taxes and penalties on it. Also, your 401(k) may not qualify for getting a loan. If your retirement plan is from a company that you no longer work for, and you didn’t roll that old plan into your current 401(k), you won’t be able to access any funds from your old retirement plan.
It’s also common for people to stop making contributions after a withdrawal which sets them back even further.
The good news is there are alternative ways to raise money without having to access your 401(k) prematurely.
A home equity loan is a low-interest loan that allows you to borrow against the equity you have built up over time. Most lenders would require that you have at least 20% equity to qualify for a home equity loan.
This means keeping your retirement money safe while meeting your current cash needs.
Personal loans are another alternative. The good thing about this option is that no collateral is involved in securing the loan. However, interest rates are typically higher than other options because no collateral is used.
Refinancing your mortgage and taking cash out at closing can provide the funds you need during a crisis. This is a good option since you take out a low-interest loan to get the cash you need.
Have you been getting offers for a 0% credit card balance transfer? This may be the right time to take advantage of the deal. This strategy can give you immediate access to funds when needed, which is better than making an early 401(k) withdrawal.
Note that the 0% APR period can range from 9 to 18 months, depending on the provider. So make sure you can pay the entire credit card balance before this period ends. Failure to do so puts you in a position with high-interest debt once more.
We understand that life sometimes throws a curveball, and you suddenly find yourself in a situation where you need a large sum of cash –fast. Due to the pressure, an early 401(k) withdrawal is among the top options considered.
Saving for your retirement requires a long-term commitment, and paying a 10% penalty for accessing your retirement money may be a considerable price to pay, even for a financial emergency. Consider taking out a 401(k) loan as a last resort since there are alternatives that can fund your financial needs.
If you are in a true financial bind and have no other option but to tap your retirement accounts, proceed cautiously and consult with a financial advisor that can help you avoid costly tax traps and penalties.
However, we urge you to explore a home equity loan or cash-out refinance instead. Curious to learn more? Contact us for an obligation-free assessment to see if you qualify.