Vacation on your 401(k)? It could cost you.
It’s time! Months, maybe years, of planning have led to this moment: the family is going on vacation. It’s also in this moment where our bankers may hear the question “Should I borrow from my 401(k) to pay for the trip?”
First you’ll have to determine if your 401(k) plan allows for a loan. Not all companies permit employees taking loans from their plan. But if it does, be sure to get all of the facts about the loan program before using it.
You should consider the effect on your retirement savings:
• It’s easy to request the loan from the plan. You don’t need a credit check. Most plans require you to keep 50 percent of your vested balance in the plan for collateral.
• The interest rate and fees are comparable to those you would incur from other lending institutions.
• You pay yourself back. The interest paid back to the plan goes to your account. That’s the upside of taking a loan, so let’s consider the downside:
• If you’re using your money at a lower interest rate, you could cost yourself lost earnings on the account. Maybe your account would have earned more if it stayed invested in the market.
• If you reduce your regular 401(k) contribution because you now have a loan payment, you’re missing out on building your retirement account.
• The loan fees are deducted from your account, which reduces your overall retirement savings balance.
• If you leave your employer, the remaining balance becomes taxable if you’re unable to pay it off in a short period of time. Plus, you could face a 10 percent IRS penalty on the outstanding balance for early withdrawal if you’re under age 59 1⁄2.
• The loan is paid with after-tax funds from your paycheck. This means the interest you repay on the loan will be taxed twice. The first time will be when it’s deducted from your paycheck to pay the loan; the second will be when you withdraw the funds, hopefully at retirement, from the plan.
It is important to consider all of your options. By taking a loan from your 401(k) plan, you are borrowing from the future. Is this a financial emergency? Can you get the money from other sources? Are you comfortable repaying the loan within your budget?
It might pay to consider other financial services that can help you avoid pulling money out of your retirement account altogether, such as a home equity line of credit or other personal loans. If you have time before the trip, you can set up a savings account just for the vacation and have money automatically deducted from your paycheck. You could pay for the trip on a credit card. If you qualify for our 0% introductory APR Visa Platinum Card and you could pay it back interest-free within 12 months.