What is a Retirement Plan Account?
A retirement plan account is designed as a long-term savings vehicle intended to provide income after you retire. Ideally, you should avoid withdrawing money from this account while still working to ensure your savings grow over time.
Accessing Your Money Early: Loans
If you need to access funds before retirement, some employer-sponsored retirement plans allow you to take out a loan from your account. This means you can borrow money, but you must repay it with interest according to the plan’s loan terms. The interest and repayments go back into your retirement account.
Understanding Your Plan’s Loan Policy
Each plan has specific rules on loans, including minimum and maximum loan amounts, interest rates, repayment periods, and the maximum number of loans you can have at once. You’ll need to submit a loan application, and if approved, you’ll receive the funds minus any fees. Repayments are made through payroll deductions with after-tax dollars but do not count as new contributions.
Pros and Cons of Taking a Loan
One advantage of a retirement plan loan is that you pay interest to yourself, not an outside lender. Additionally, these loans don’t affect your credit score and don’t incur taxes or early withdrawal penalties. However, borrowing can hurt your account balance over time because the money isn’t invested while it’s loaned out, meaning you could miss out on compounding growth.
Risks of Not Repaying
If you fail to repay the loan on schedule, the outstanding balance is treated as a taxable withdrawal. You’ll owe income tax on the amount, and if under 59½, you may face a 10% early withdrawal penalty. Also, if you leave your employer, you might be required to repay the entire loan quickly.
Final Considerations
Before taking a retirement plan loan, explore all other options and weigh the pros and cons carefully. If you decide to proceed, be sure to repay the loan promptly and keep making regular contributions to your account. Stopping contributions while repaying a loan can severely impact your retirement savings and goals. If you’re unsure, consider consulting a financial professional for personalized advice.
It may also be beneficial to consult with a financial advisor to ensure your investment choices align with your personal financial goals.
