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How to take a loan from your 401(k) account

Learn how to borrow from your 401(k) with our step-by-step guide. Discover the pros and cons, eligibility criteria, and tips to ensure a smooth loan process for your financial needs.

Siarra Ortiz
June 10, 2024
Updated:

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When you have a financial goal you want to reach or unexpected expenses to cover, it can feel like a no-brainer to look to your reserves. However, you should weigh more than just the short-term benefits when deciding whether to tap into your retirement savings. What feels like an easy win today can have serious consequences come retirement. 

If you’re considering a 401(k) loan—read on. This post will explore how a 401(k) loan works, how to obtain one, and how to decide if it’s right for you. 

401(k) loans: an overview

401(k) loans allow you to borrow money from your retirement account without incurring an early withdrawal penalty. You can typically leverage up to 50% of your vest account balance or $50,000—whichever is less. You'll be responsible for repaying the loan plus interest to your 401(k) account within five years. 

Pros:

  • Interest rates are more competitive than personal loans or credit cards—and any interest you pay goes to you rather than a financial institution.
  • The loan is not considered an early withdrawal, so you bypass any taxes or penalties—as long as you repay the loan on time.
  • Your credit score does not impact your eligibility or the interest rate you receive.  

Cons:

  • If you leave your job or experience an unexpected layoff, you'll be responsible for paying off the loan by tax day of the following year. 
  • There's no bankruptcy protection on 401(k) loans, which means you'll be on the hook for repayment even if you file.
  • Defaulting on the loan will result in taxes and fees.
  • You risk a serious retirement shortfall if you can't make catch-up contributions. 

How to take a loan from 401(k) accounts

To borrow from your 401(k) account, you'll need an eligible plan. 

Online: 

In most cases, you can take care of everything directly through the online portal or platform where you review and make changes to your plan. Most plans allow you to view eligibility and restrictions right online—and even initiate a 401(k) loan through the platform.  

If you have a plan that permits 401(k) loans, take time to understand the requirements and guidelines. Then, gauge how much you can borrow, interest rates, and payroll deductions for the loan—platforms generally calculate this on your behalf. Should you wish to proceed, you'll be prompted to complete and submit any paperwork for the loan.   

 

Through your job: 

If you're not able to find information or start a loan through the online platform, fret not. You'll just have to reach out to the human resources department at your job. They can confirm whether your employer supports 401(k) loans and lending conditions. They’ll also connect you to the official officer or agent appointed to handle all 401(k)-related matters. To proceed, you will have to complete and submit the required paperwork. 

As with any financing, it's crucial to read the terms and consider the impact on your short–and long-term finances. 

Can I be denied a 401(k) loan?

Since your employer likely sponsors and manages the 401(k) program, they have free reign over terms—including restrictions on borrowing money from your 401(k). Some possible reasons they may deny your request include:

  • You don’t have a good qualifying reason: The purpose of your loan doesn’t meet plan requirements. 
  • You’re asking for too much: The requested loan amount surpasses what you can borrow. 
  • You’re close to retirement: You’re nearing the end of your career and won’t have steady, reliable paychecks.  
  • You’ve taken a 401(k) loan before: You have an outstanding loan balance, or your job has a required waiting period before you can take out another loan. 

If you’re seeking financing as a self-employed individual, you can approve your own solo 401(k) loan request—but you’ll still need to meet IRS requirements. 

Will my employer know if I take a 401 (k) loan?

Yes, your employer will likely know if you take out a 401(k) loan. If the loan is secured through their sponsored program, they may need to approve it. Additionally, since payments will come out of your payroll, your HR department will be aware. 

Alternative options

401(k) hardship withdrawal

If you're facing a dire financial crisis, taking on debt will always be a bandaid—not a solution. In this case, it's worth exploring a 401(k) hardship withdrawal. Unlike a 401(k) loan, you won't have to repay what you leverage. However, you may have to pay taxes and fees. 

Qualifying hardships include costs to prevent foreclosure or eviction, home repair costs resulting from damage caused by natural disasters, medical expenses not covered by insurance, funeral or burial costs, education-related expenses, and home-buying costs associated with purchasing a primary residence. 

  • Loan amount: Enough to cover the cost of the hardship
  • Requirements: Eligible plan and qualifying hardship

Home equity investment

Homeowners have long tapped into their equity to meet various financial goals. If you’re a homeowner with sufficient equity, a home equity investment (HEI) may be a good fit for your needs. 

You can access a lump sum of cash in exchange for a share of your home’s future appreciation. There are no monthly payments throughout the 30-year term. Instead, you repay your investment in full, anytime during a flexible 30-year term. Home equity investments are particularly compelling for those with less-than-great credit or who are self-employed. You can prequalify without impacting your credit here

  • Loan amount: Up to $500K
  • Requirements: Minimum credit score of 500, no income requirements, sufficient equity in a primary home or investment property

Home equity loan/home equity line of credit

Home equity loans and home equity lines of credit (HELOC) are two additional ways to tap into your equity for cash. 

A home equity loan gives you access to a lump sum of cash. You repay the loan over a 10-year term through fixed monthly payments. 

A HELOC, on the other hand, offers a credit line with a 10-year draw period. Once the draw period ends, a 20-year repayment period begins. During the repayment period, you'll have monthly payments with a variable interest rate. You can gauge your HELOC eligibility here

You can get a home equity loan or HELOC with less-than-perfect credit, or if you're self-employed—it will just be more challenging. 

  • Loan amounts: $20,000 to $400,000
  • Requirements: 620 credit score or higher (though 680 is preferred), sufficient equity, a max debt-to-income ratio of 43%

Personal loan

When comparing 401k loans vs personal loans, borrowing from a 401(k) plan is more advantageous. However, a personal loan is worth considering if you can’t tap into your nest egg and need cash urgently.  

Though most lenders require a credit check and decent income to qualify, there are also many low-credit flexible lenders. You won’t get the best rates and terms, but you may find the relief you need. Just be sure to shop around for the best rates and terms. 

  • Loan amounts: $1,000 to $100,000
  • Requirements: Vary lender to lender; credit check required 

When a 401(k) loan makes sense

If you’ve exhausted all of your options or know the cost of taking out a personal loan will put you in greater financial stress, a 401(k) loan may be worth it.

Alternatively, explore alternatives if:

  • You need a longer repayment period
  • You don’t have job security
  • You have other assets to leverage
  • You’re uncertain about catch-up contributions
  • You don’t have an eligible retirement plan

Final thoughts

A loan from your 401(k) can be a practical solution. However, it's critical to weigh the long-term impact to stay in control of your financial future security. Consider seeking professional advice to make the best decision for your unique situation. 

Contact your plan administrator or check online to gauge your eligibility if you're ready to proceed. If an alternative solution feels like a better fit, explore all possible avenues. 

Remember, your 401(k) is a valuable asset for your future—utilizing it wisely will help ensure stability both now and in the years to come.

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