TODAY ON REASONED REFLECTIONS:

• Personal finance articles 💰;

• See you on X;

• Should you take out a 401(k) loan?;

• Quote of the Reflection.

Personal Finance Articles 💰

Time for a bit of R&R

• Lessons from John Bogel

  My Take - John Bogel is an investing legend! If you haven't already, you should read his book The Little Book on Common Sense Investing.

• All about 401(k) loans

  My Take - I debate whether you should be able to take out a 401(k). On the one hand, it’s your money, and you should be able to do what you want with it. On the other hand, you are essentially robbing yourself of all that money by taking it out of the market. 

• Rental properties and taxes

  My Take - This is a helpful article for those in the real estate rental market. It is always important to understand how these different things work before you dabble. 

• It’s not too late to save on your 2024 taxes

  My Take - Who loves lowering the amount they owe in taxes?! 🙋🏼‍♂️ Tax planning starts now! 

• What not to put in your trust

  My Take - No one likes to think about their death, but you should think about what you want your estate plan to be. Having a will and/or trust generally simplifies the probate process and lets you control where your assets go.

See you on X

Want a daily dose of insights and behind-the-scenes peeks at my work? Follow me on X @jpkirkwold where I share quick thoughts on all things personal finance.

Reflection No. 9: 401(k) Loans

I - Issue: Is taking out a 401(k) loan a good idea?

R - Rule: A 401(k) loan allows you to borrow from your retirement savings without penalty, but you must repay the loan within a set timeframe with interest. While the loan terms may be favorable, tapping into retirement savings could put your long-term financial security at risk.

A - Analysis: A 401(k) loan is attractive when you need cash. After all, you’re borrowing from yourself and avoiding the usual interest payments you’d owe a bank or credit card company. Typically, you can borrow up to $50,000 or 50% of your vested balance, whichever is less. The loan also doesn’t impact your credit score, as it’s not a traditional debt. On paper, it is an easy way to access cash without extra fees or penalties.

However, there are some significant downsides to consider. First, when you borrow from your 401(k), you reduce your retirement balance by the loan amount which means that money isn’t invested and working for you. The compounding growth crucial to building up your retirement fund stops on the borrowed amount. For example, if you borrow $20,000 from your 401(k) over five years, and the stock market grows at a 7% rate, you could miss out on more than $5,000 in potential earnings.

Additionally, even though you’re repaying the loan with interest, you’re replacing pre-tax retirement dollars with post-tax loan repayments (assuming the money you borrow comes from your Traditional 401(k) balance). That means you’ll be taxed twice on the money when you withdraw it in retirement—once when you repay the loan with after-tax dollars and again when you take it out in retirement.

What happens if you lose your job while you still have a balance to pay back under your 401(k) loan? Under current IRS rules, if you leave your employer voluntarily or through termination, you must repay the loan in full by next year’s tax deadline. If you can’t repay the loan in time, the IRS will treat the outstanding balance as a distribution, and you’ll be hit with income taxes and, if you’re under 59½, a 10% early withdrawal penalty.

The appeal of a 401(k) loan may also come from its ease of access. Unlike bank loans, you don’t need to qualify through a credit check, and there’s no lengthy approval process. However, the ease of access can make it too tempting for some. Relying on your retirement funds to solve short-term problems could jeopardize your long-term financial future.

In certain situations, a 401(k) loan can make sense. If you’re in dire financial circumstances with no other options, a 401(k) loan could be better than high-interest loans like credit cards or payday loans. However, it should always be a last resort and carefully considered against your future retirement goals.

C - Conclusion: While taking out a 401(k) loan can provide short-term relief, the long-term costs and risks make it a questionable strategy for most people. Carefully weigh the impact on your retirement before considering this option.

Time to Reflect…

A 401(k) loan might seem like a quick fix when you’re strapped for cash, but it comes with detrimental trade-offs for your future. Before you tap into your retirement savings, it’s essential to consider both the short-term relief and the long-term costs. The money you borrow today could slow down your retirement growth for years to come. If you’re facing a challenging financial situation, weigh all your options carefully and consider your future self. Your retirement nest egg will thank you later.

Quote of the Reflection

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