Considering Taking a Loan From Our 401K - Is There a Disadvantage?

[Cyndiu]

OK, I am really slow understanding this. If we make 6% keeping the money in, wouldn't it be better to earn the 9.25% that we would be paying ourselves?

You are paying the loan back with money that you have paid tax on. When you pull the money out at retirement you will pay tax on that money again. Thus the money you spend on a car now will actually be taxed twice. At any tax bracket, that's a bad deal.

 

[KJMAX1]

Dont forget you wont be earning on invested money, and your employer will not match if they do, on anything you pay back to yourself.

Go with the auto loan somewhere else. I know sometimes the dealerships are less than banks, and its all negotiated, even the rate.

 

[dcfromva]

Beth,

Taking out a 401k loan for the purchase of a car is bad idea unless absolutely necessary! While you will be paying your self interest you are actually losing money because those funds are no longer earning money for you!!! Say you borrow $20,000 and traditionally your fund has an annual return of 6% (which in many cases is a conservative figure.) By taking out that loan, you have lost out on $1,200 in the first year alone!!!! The longer it is out of your 401k the greater your losses due to that potential interest not earning interest. At least if you used the funds from a HELOC, those would be tax deductable!!! You can get a HELOC from your bank or reputable broker for litttle to no cost! (My DH is broker in the South Hills so I hear all about these!)

Please check with yor local bank or credit union to see what kind of rates you can get (often much better than dealerships.)

I hope I don't sound harsh but I think this would be a bad mistake. 401k loans should definitely be a measure of last resort and you have plenty of other much better options available to you!!!

HayGan,
Good advice. I did want to caution however, that a HELOC loan may not be tax deductable. If a person is subject to Alternative Minimum Tax (or they become subject to AMT in later years because their earnings have increased), the interest for a HELOC is thrown out if the loan is not used to buy, build or improve your home.

Link to IRS AMT publication--look at page 2

AMT is not just netting the big fish anymore. More and more folks qualify for AMT every year. Here is a link to an article on AMT and the increasing number of folks subject to paying it

-DC