If you’ve been reading PDITF for longer than, say five minutes, you’ll know I’m not necessarily the smartest PF blogger of the bunch. But what I lack in brains I make up for in crappy stick figure drawings…right?
Over the years I’ve read a handful of articles about 401k loans. Most articles pretty much say the same thing, “They’re really dumb, so don’t do it.”
So for that reason, I’ve decided to consider taking out a 401k loan.
How you like them apples counterintuitive personal finance?!
Okay, I’m not necessarily considering taking out a 401k loan, as much as I am trying to figure out the reasons why I should not take one out.
I’m planning to take a 401k loan: Here’s some context
A few things to note….
- Girl Ninja and I have just shy of $100,000 in our savings account.
- When we finally find a house worth buying, it will probably be priced between $350k and $400k.
- We will put 20% down (so looking at about $70k to $80k).
- My govt job is stable (instead of facing furloughs I am working mandatory overtime)
So now that you know those basic things about me, allow me to try and explain why I’m flirting with the idea of using a 401k loan as part of my down payment.
I logged on to the TSP website (the government version of a 401k) and played around with their loan calculator. I ran some numbers based off a $30,000 TSP loan (to be used for part of our 20% down payment) being paid back over 3 years.
According to the calculator I’d be charged 1.75% interest on the loan, and would have bi-weekly payments of $395 taken out of my paycheck to pay it back. Over the course of the three-year payback period, I’d have paid a total of $810 in interest, or $22/month. There would also be a $50 administration fee charged upfront.
The cool thing (is cool the right word?) about a 401k loan is that, although I would have to pay $22/month in interest on the loan, that interest gets paid to my 401k balance. So I’m just paying myself interest, not the bank, not the government, just myself. Essentially I borrow $30,000 from myself and pay myself back $30,810 over the course of three years.
I’m failing to understand why is this a terrible decision?
The reality is the stock market has gone gang busters the last couple years.
What’s more, I didn’t start investing until 2007/2008. This means I missed the 2002 to 2007 bubble. Virtually all of my 401k investments were made while the market was “on sale”. This makes for some pretty incredible returns, not because I’m awesome at investing, but I didn’t have money to invest until the Dow was trading sub 10,000. Dumb luck I guess.
While it’s true the market could continue to go higher and higher for the next couple years, I don’t think it’s necessarily a bad choice to lock in a 25% YOY appreciation. Especially when I’m cashing out at HISTORIC HIGHS in the stock market to take advantage of mortgage interest rates that are still near HISTORIC LOWS.
So what am I missing here?
There are only two things I can think of that make this 401k loan option potentially stupid…
- The markets continue to go gangbusters for the next three years. I will be paying myself 1.75% interest on the loan which is a heck of a lot better than my savings account currently pays, but if the stock market goes up 20% a year for the next three years that will be painful to watch. My gut says this scenario is unlikely and the bull market will cool (especially as the fed lightens up on Quantitative Easing), but it is still a possibility and something to consider.
- If I get fired or quit my job I have to pay the loan back in full within 60 days. This is definitely the most popular reason PF bloggers advocate AGAINST 401k loans. But isn’t this because most people who take out 401k loans don’t have the cash on hand? I’ll have more than the loan amount in my savings account, so in the unlikely event I got canned, I could pay the loan in full no issue. Remember, I’m a firm believer “liquidity is king” so why not keep the cash in hand?
Okay, so like I said. I’m not the smartest kid in the room. Have I done all my homework?
What am I overlooking?
Note: If you think this decision is really stupid (which it totally might be) I just ask that use realistic numbers and analysis in your rebuttal as I’ve tried to do in this post. Not just a comment like “401k loans are for idiots.”
Borrowing money in your 401k to buy a home is a great idea. I borrowed 24K to buy my second property. You can look at it as diversifying your investment in your 401K. The $30K could be considered a “real estate” fund, as long as the money is used for investments. Using it for non investment purposes is dumb (vacation, cars etc.)
It is hard to argue with the logic. If you just have to pay the balance of the loan and a small amount of interest to yourself over three years and you can afford it…go for it. I would do the exact same thing in your situation.
I think the main thing is your #2 under What Am I Missing Here?
We are in this housing crisis because too many people took chances and spread themselves thin. They took risks that didn’t work out. Your job is stable because you’re a fed, but not everyone is a fed, and job stability can be a curse.
What if you get a new boss who is terrible, and you continue to value job stability over moving to another job that is a better fit for you? With a 401k loan, you’re stuck at your current job no matter what. What if your boss realizes you have a 401k loan, so you can’t leave, and gives you smaller raises than you deserve? I realize this cant happen in the public sector, but it could in the private sector.
Taking a 401k loan will trap you. And, when it rains it pours … you’ll get fired or laid off, now you have to find a new job, hope you have enough emergency funds, keep your morale up, and not you have a friggin’ 30k loan you have to pay back that is like a ticking time bomb.
I think the only good situation is the one you’ve identified. You already have enough money, but you have it in places you don’t want to touch, like investments, CDs, etc. You take the 401k loan for something relatively small, but you have the ability to pay it off at any time by dipping into funds that you’d rather not, but could if you had to.
Exactly. 401k loans are pretty dumb if you don’t have the cash to pay off the loan. What I’m proposing is instead of using $70,000 of my cash for the down payment, I would use $40,000 cash and $30,000 from my 401k. This would leave me with about $60k in my savings account. Would be able to pay off the 401k at any time if I wanted.
We have taken 3 TSP loans out (not ideal, as taking from retirement means that money isn’t earning money), but each one worked out great for us. The first covered our closing cost on our home (12 years ago), and the 2nd replaced the roof and did some general home maintenance (painting outside, a few repairs).
And we currently have a TSP loan that we are just over a year into paying back (out of 4). We took out $38k to consolidate higher interest CC. We pay $380.15 each paycheck, and have an interest rate of 1.85%. Much better than the 15.99%!!!
Additionally, you can modify the loan to speed up the payment if you wish. You can make a “bulk” payment, if you choose, or can change the bi-weekly amount and increase it.
I wouldn’t say it is ideal to take the loans, but as long as it is for the long term good….then go for it.
One thing to bear in mind is that during the mortgage approval process, the repayments will be counted into your DTI. For you, shouldn’t be an issue, but something to be cognizant of, and something a lot of people that need to take out a loan for closing costs or to refi I don’t think of.
What you say in this post runs counter to your last post. You are trying to time the market, which you said you can’t do so you’ll stick with DCA. Don’t listen to your gut!!
You don’t need this loan to get into a house so I don’t see any reason to do it. Plus, won’t having this loan mess up your mortgage approval process? It’s more debt on the books.
See comment below 😉
…and I don’t think this will have any significant impact on mortgage approval process considering I have no other debt and don’t plan to stretch our finances on our first home purchase.
I agree with Emily. What you’re saying in this post basically negates anything you said in your last post. Suddenly you are on board with cashing in a portion of your 401k balance to lock in gains because of a gut feeling? That fella whose email you responded to must be really confused after today’s post.
The only way I would personally consider supporting this idea would be if you were using the 401k loan to ADD TO a cash down payment of 20%. Then you’d go from a 20% down payment to a 30% down payment, basically giving yourself 10% of your mortgage at a 1.75% (or, really, 0% since you keep the interest payments) rate as opposed to the 3.5% or so you can get in the market these days. By doing that, I actually see some benefit over just using the cash you already have saved.
Another option would be to take the loan, then take the cash you saved from using the loan and dump it into a brokerage account that mirrors your 401k account. This would be taxable were you to lock gains in in the future, but at least you would not be sacrificing the potential market appreciation while your loan is outstanding.
Haha, yeah I got my tail between my legs a little. I knew when I was writing this post it would be a slight contradiction to my last post. That said, I think there are some differences.
1. The person who sent that email thought the markets were sure to go down and they wanted to go all cash. While I think the market is near a high, I fully accept that there could be another 20% YOY gain. And I’m not projecting the markets tank, as the other reader was. He wanted to move his funds to cash and wait a while to buy back in at a lower price. I’d be buying back in no matter where the market was, higher, lower, or the same.
2. I would not be putting this 401k money in to cash as the reader suggested. I’d essentially be diversifying my retirement portfolio by using some of these funds for real estate. Which is obviously different than just putting the money in an account that earns 0.5% interest. And knowing I’m locking 25% gains is still a great situation no matter what way you slice it. Even if I could have made 40% gains, a 25% gain is still triple my projected/anticipated returns (I typically calculate retirement based on 8% annual gains).
While I might not get 20% ROI, I would be locking in a 5.75% ROI. I’d save 4% in mortgage interest on that money, plus be paying myself 1.75% per the loan terms. That’s not a bad guaranteed ROI.
And don’t forget I’d be getting out of the market at literal record high levels to go in to real estate at literal record LOW interest rates. That alone is appealing as far as the buying high/selling low argument goes.
3. I could get back in to the market much quicker. I used three years to pay back the loan for this example, but I probably wouldn’t take that long. The way I see it is I could either give up $30,000 from my savings all in one fell swoop, or I could spread that out over a few months to help mitigate the blow to my liquidity. Maybe I make $3,000/month payments for 10 months.
So am I hypocrite? Kind of, but hopefully at least one that has thought this through.
…and like I said, I probably wont even do this, but I’m finding it hard to think of reasons NOT to.
Just some numbers clarifications regarding the tax effects. You indicate you will be saving 4% in mortgage interest (tax deductible) on that money. Assuming you are in the 25% bracket this will save you 3% (net) a year on these funds. In addition, you are paying 1.75% of interest (with after-tax funds) to ‘yourself’. However, when you (someday) withdrawal those funds they will be taxed again. This means that you are paying ‘yourself’ 1.3125% (75%) of the interest, and 0.4375% (25%) to the IRS (again, assuming a 25% tax bracket when you withdrawal the 401k funds).
The argument does make sense, and the downsides of taking a 401k loan are much less than the finance talking heads would have you believe. I can certainly see your point.
I think my biggest question if I were advising you would be “what do/would you gain with this approach over your current plan of using savings?”
1- Liquidity by keeping an extra $30k in cash (doesn’t seem like you need it).
2- Your 5.75% ROI. I question this ROI because you would be paying this $30k down anyway, regardless of whether it’s from your 401k balance or savings. Thus, you’d get 4% by using the savings (saving that much in Mortgage interest) and your ROI over that scenario is really only 1.75%. If you like the idea of getting 1.75%, can’t you simply use savings, then, knowing you don’t need to save as aggressively in the future, increase your withholdings by 1.75% (same as paying the 1.75% interest to yourself)?
3- Everybody says Don’t do a 401k loan, so I’m going to do the opposite. I think I would like this response/justification the best.
I’ll still stand by my original statement that perhaps the best way to use this would be to increase your down payment from $70k to $100k, thereby increasing your down by $30k over what you could/want to do with cash. Doing this, you’d actually be saving the 4% mortgage interest to put you at your 5.75% ROI, and be taking on less debt.
Also, be wary of buying at historically low interest rates, unless you plan on staying the home for 10+ years (seems like you are). Low rates mean (and are rapidly leading to) high prices. Once rates go up, prices will begin to level off or fall again, as higher interest rates –> the same list price of a home costing more actual cash money.
Again, interesting thoughts you bring up!
You also bring up some great points and things to consider. Ultimately, I probably wont do the loan because I can’t really think of a reason I need $60,000 in savings. I’m actually looking forward to the day I have a more normal $10,000 in savings and the rest invested in real estate and the stock market.
If you get fired from your job then the balance is not due in 60 days. It’s only due in 60 days if you leave voluntarily (at least that’s how it works with my 401k loan).
The terms of some plans might actually allow you to continue making payments after your employment terminates. However, the loan balance does not come immediately due unless you also take a complete withdrawal from your account when you terminate. If you leave the funds there, (under the IRS rules) you should have until the end of the following calendar quarter to pay the loan back in full. For example, if your employment ends in October 2013, you would have until the end of March 2014 to pay the loan back completely.
Depending on what the loan is used for, I don’t see the problem. You already have the cash on hand to pay it back if necessary so if you were to take out this loan you need to make sure it’s invested into something worthwhile. Obviously frivolous spending on vacations or new cars seem silly, but what about something that could produce some cashflow rather than using the money to buy a personal living space? Then you’re making money off the loan (paid back into your 401k) AND you can make money off the investment you purchased with it. Double win!
Benefit to 401K loan – Payments do not count against DTI ratio and loan is not reported to credit agencies, because it is your OWN money. What about using the 401K loan for a downpayment on a smaller house that you could rent out in a couple years once you’re ready for a larger place? This would keep your debt down, provide for possible income in the future, and give you a chance to build some equity during the years of paying down the mortgage.
Having worked in many lines of consumer lending, if the loan appears on a pay statement for repayment, it will usually be counted into the DTI. However, if it doesn’t show as a payroll deduction it will not, as it is not on the credit bureau. Unless 401k/tsp statements are requested to verify assets, and they see the loan, they may include it in the DTI as well.
You could have the interest money sitting in the stock market in your taxable account instead of in your 401k. Gains on it will be regular income when you withdraw it from your TSP in the future, but it could be capital gains income instead.
Not a huge deal, but probably something you weren’t thinking of.
The very fact that Suze Orman says to never, ever, ever take out a loan against your 401(k) means it’s well worth considering. If you remember Frank Curmudgeon from Bad Money Advice, he too thought the 401(k) loan is a viable option in some circumstances. Maybe I’m missing something, but what I don’t understand is why, if you have $100K in cash and need about $75K, you wouldn’t just take the money from savings. You still would have an ample cash balance for emergencies.
So far I’ve never touched a dime from my 401(k) or any of my IRAs, even though at my age I could withdraw from these accounts without any loss beyond the taxes I would have to pay in retirement. There’s something psychological about crossing the line into using retirement money before I’m actually retired. Personally, I’m more concerned by how few people spell 401(k) correctly, without using the parentheses . . . .
This is probably the primary reason I wont end up taking out the loan. If I used $40k of my savings and $30k from my TSP, that leaves $60k in my savings account.
I can’t really think of a reason why I would need $60,000 in savings. Haha. I have definitely gotten used to having a butt load of cash in the bank, but like I’ve blogged about before, I think having more than $10,000 in the bank (outside of very near term expenses like our down payment) is pretty much silly since that money doesn’t grow.
401k is just way easier to type. forgive my laziness 😉
Before I comment I will mention that I am also considering taking a 401k out loan for a home purchase. Knowing that I had the ability to use these funds as a down payment if needed allowed me to contribute more than I would have if this option was not available (I have been working for 4 years and have about 80k in my 401k and 30k in my roth IRA). I also like my job, feel secure and have no intentions of leaving.
If this is an attempt to time the market then call it what it is, and in that case if that is what you want to do go for it. But the big negative is you are not earning any return on your $30,000. Yes you will end up with $30,810 in 3 years, but that $810 was your money that is now in the account. If there is any inflation, your money will have less purchasing power in 3 years. The $30,000 that you get to leave in your bank account earning 0.5% (estimate) will leave you with a total of $30,453.30. Combine the $810 and $453.30 for a net worth increase of $1,263.30.
If you run some numbers on what your $30,000 in your retirement account will turn into with an average annual return of 1%, 5%, 10%, etc. you will see the potential return you could be missing out on. ($913.25, $4,844.17, $10445.46 respectively plus the $810 that you would have paid to yourself in your 401k loan). Anything over a 0.5% annual return would leave you with more money in 3 years).But like any investments you also run the risk of losing money which will make you look like you can time the market as well as you can draw stick figures.
Check my numbers as I did the calculations quickly, but you could also try moving your retirement investments into more conservative investments which would lock in the gain and keep your money in a tax sheltered environment. If I was in your situation I would not take the loan unless you feel that the down payment/closing costs will use up too much of your cash and dip into your emergency fund.
You will make money on the $30k in your TSP as you pay off the TSP loan, so you will get more than the $810 back. You will be buying back shares with every payment you make on your loan.
I did this for he exact same reasons when I bought my second home. Just paid of the loan on Monday. Pretty pumped to be done, but I feel it was a great choice.
If you had a student loan like me with a 6% interest rate, would you take out a 401k loan to pay off the student loan balance?
I would say probably not worth it. Your student loan interest is tax-deductible and you have the ability to put your payments on hold if you ever experience financial difficulties. If your loans are subsidized, the government will even pay the interest for you during these periods. An additional benefit of student loans are the different repayment options. If you do income-based repayment, and you make your payments for 25 years (10 years if you are in the education field I think), any balance left at that time is forgiven.
Also, what is the rate of your 401k loan? The one I just took was 4.25%, which is not as good of a deal as 1.75%, obviously.
I think it is a great idea if you need the cash for the down payment. If it enables you to avoid mortgage insurance or an FHA loan, then I believe the risk of job loss might be worth it. Of course, you can mitigate this risk by saving up enough to pay the loan off as quickly as you are able. Also, you should NOT suspend your 401k contributions after taking out the loan.
I am in the process of getting approved for a mortgage right now, and took a loan from both my wife’s and my 401ks in order to qualify for a conventional loan with 20% down.
I don’t think that TSP loans are an absolutely horrible idea. I do think that it is wiser not to borrow from retirement however, because of the fact that your contributions will likely earn more in TSP funds than the $810 interest you would pay back (unless you only invest in the G-fund).
What I can tell you from personal observation, I’m also a government employee with TSP/FERS retirement benefits, is what many of my coworkers have recently gone through. Two years ago we were all given a raise and bumped up to the next GS- grade level. That was pretty sweet. This year however, the Obama administration has been head-hunting all of us. My agency doesn’t line up with the political agenda. Since that pay raise, we have been threatened with pay cuts and furloughs, til the cows come home. All in all these cuts would have totaled approximately a 33% reduction in pay. Thankfully we haven’t been furloughed and our pay has only been docked a little over 5%. Who knows what will happen in the near future.
Quite a few of my coworkers had taken out TSP loans prior to all of the political drama. When we received news of pay cuts and were served furlough papers, these people were sweating bullets. They weren’t sure how they were going to make ends meet with the deductions for their loans. What I am trying to say is, today you might be working mandatory overtime, we went through years of that too, but tomorrow you might be facing a drastic reduction in income. That is why I would never borrow on my TSP. One day your agency is the government pet and receives full funding and the next you are the red headed step child.
That 50$ administration fee upfront. That’s FIFTY 1$ tacos…..
HOLY GUACAMOLE. Tacos > 401(k)
The simple answer is you will only receive the interest you are paying. For 3 years, your ROI is 1,75%! You want your retirement money to beat that return, don’t you?
That’s what I was thinking. You will miss out on any market returns in your 401(k) on that $30,000 while your savings sit there earning very little. It’s good if you think the market is going down, but not if you think it’ll go up.
Building on Larry’s comment, if there is an emergency you can still get to the 401K cash.
I had an idea that I toyed with but didn’t end up pulling the trigger but you may. Use your cash for a 20% downpayment but then use the 401K loan as an additional down payment bringing down your monthly costs. Eventually (few years) you’ll pay back the 401k loan and be left with the smaller mortgage.
Reason I didn’t do it was because I received a rate of 3.375% on a 500K house (minus 100K DP) so any money I was adding through this idea didn’t make enough of a dent. But if you are at 4% and a 200K mortgage an additional 20 or 30K may make a dent.
First off, your title totally made my day. Almost laughed out loud in the office! Hehe.
Secondly, I’m no expert, but personal finance is just that – personal! I think you’ve put a lot of thought into it, so I say do it!
Finally, thanks for this! Now I’m going to do some research on my own 401k to see if I have any options that can help me get rid of my extremely high interest CC debt!
Thanks for highlighting this option. We have incredibly similar portfolios (same amount of cash, planning to pay similar amt in downpayment) but I like the idea of using the 401k loan to extend my downpayment to a larger sum (homes in my area are a bit pricier even for modest homes) I will investigate.
I think taking out a TSP loan to slam as much on a house is a good idea.
Run the amoritization #s and see how much interest you will pay in 30 years for $30k vice the $810 you pay yourself. And say this economy does change….which it won’t….and it does go 20% up well then run those #s too. See which way you pay more and which benefits you more.
I despise paying mortgage interest. The rates are too low to even help you on your taxes so forget that being worth any sort of write off. When those rates were dropped yrs back, it benefited the gov. House prices went up and rates went down…so virtually the P&! stayed the same but the gov has to dole out less in tax returns.
You will need cash on hand when buying a house b/c you will constantly be rebuilding it. They always break, crack, sink, leak etc. Owning a house sucks on one hand but on the other hand when its paid off it will be awesome to have a roof over your head when you are too old to work. Aim for paying it off as soon as possible.
You are doing the right thing by running the numbers. Run them every way you can and make up your mind. Don’t listen to the person doing your loan. My loan person tried to talk me into a 30 year loan and I didn’t listen, thank god b/c I’d probably still owe 90% of the loan after 10 years. They make a killing on 30 year loans. BTW…TSP loans are not amortorized. Go with a 15 year loan too if you can swing it. The difference isn’t that much.
I like 30 year loans for reasons I outlined in this article a while ago….
I also don’t really hate the idea of paying mortgage interest. I mean 4% is relatively low as far as debt interest is concerned, and since the stock market averages 9% annual growth, it makes sense to focus our discretionary income towards investing, and not paying down the mortgage faster. This becomes even more true when I get to use cheaper dollars to pay down the loan years 10 through 30. Inflation is a borrowers best friend.
This of course is only taking in to account the financial benefits, and not the psychological ones that come with having a paid for house 😉
if you are going to use any retirement vehicle, use the ROTH. You dont have to play any taxes on it and you can take whatever deposits you made, just not the earning.
That doesn’t make sense to me. We can pretend like withdrawing from the ROTH is “tax free” but that’s not really true. I just already paid the taxes since ROTH contributions are done with after tax money. This goes back to my whole blog post about why the ROTH IRA is a big lie…
What’s more. If I took $30,000 from my Roth, I can’t put that same $30k back in a year later. It is not a loan, it’s a withdrawal. This would be a terrible decision since I would lose out on a butt load of compounding over the life of this account.
With a 401k loan, however, I could borrow the money from my 401k, put it back a year or two later, and suffer minimal (and possibly no) loss of compounding.
Yes, it makes sense from a number standpoint, but you have to wait until 59 1/2 before you can start taking money out. That is a long time to wait to get your money, especially when you have a pension and the 401k. Which is why the Roth is a big lie!
You really seem to be having internal conflict lately about 401k loans and this large sum of cash for the house. I know (and hate) the feeling. I am at a similar point with our savings. I want to pay off my mortgage right this moment.
Since the local housing market is tough and you guys havent found the right place yet, why not create a second fund! This one can be whatever is saved up past down payments, closing, furnishing, etc.
I’m not going to argue the whole thing because I’m a foreigner and I don’t know the rules of the game…
But someone said it’s diverisfying your investment portfolio to include real estate. But I happen to agree a bit with the dude who wrote Rich Dad poor dad – your home is a liability because it costs you money to keep and it doesn’t bring in an income (even if it is less than rent). Yes it’s an asset because you can sell it, but you are always going to need somewhere to live, so unless you sell and buy something cheaper, it doesn’t necessarily add to your liquid wealth. I know I haven’t explained that properly , but in short – your home is not an investment. It is where you live. when buying a home there are intangible aspects that you wouldn’t consider if it were an investment because for a home, you buy with your heart. an investment you buy with your head.
People often say it is wonderful that my inner city flat has gone up so much. But if I sold it what does it buy me? Another inner city flat. So unless it’s an investment property (i.e. extra to my home) or I am changing to a lower priced area, the fact that it has gone up in value is meaningless.
I an going to have to call bull on anyone who mentions a kiosaki half truth. A House cannot be an asset in one situation (rental) yet magically a liability in another (owner occupied) based on who is living in it. A house is always an asset. The mortgage, taxes other expenses are liabilities. If the value of the asset + dividends > cost of liabilities the house is a good investment otherwise it is a bad investment. Rent is equivalent to a dividend in a stock that you can collect by renting the house out or use by living in the house. The value of owner equivalent rent has to be added to the asset side ,but is difficult to judge because it doesn’t have a concrete value like actual rent.
From what I understand of kiosaki’s poor dad from reviews of the book (I never read it) is a man who was status obsessed. The poor dad ignored the cost of liabilities to get more expensive status symbol assets leading to bad investment decisions. This does not make owning occupying a house a liability you have to analyze every investment to see if it is good or bad.
Whilst I agree, I think you miss some of the point I was trying to make. Making it simpler , a home is an asset – but not an easily realised asset. You need some where to live. so unless you can buy cheaper, whether the value goes up or down is irrelevant because unlike a rental property which you get money off, or you could sell tomorrow, or stocks for that matter, if you sell your home, you need to get another one – whether by buying another or renting another. It is a completely different decision to selling an investment.
so yes it’s an asset. Yes it is part of your net worth, but I wouldn’t include it in my investments, because it doesn’t bring in an income, you buy it with a different set of criteria, and it would be a big decision if it had to be realised for financial gain. Yes you can add the value of living in a home to the asset side as you say, but I am talking strictly in financial terms not in intangibles. (BTW I am a big believer in intangibles so I am not saying it is a bad thing)
But something can be an asset in one situation and a liability in another: a business van enables you to earn income, whereas a private car is a liability because it costs you to run it. it depends on how it is used.
However I know this is something people feel very strongly about (and I must admit I took great exception to Kiosaki denigrating his “poor dad’s” career choices just because they didn’t make him a lot of money – do what you love I say – money isn’t everything) but I’m happy to agree to disagree.
I can find any fault with your argument financially based on the numbers you have given. To me this seems silly and over complicated. You could just use the funds in your bank account for the DP and move cash in the 401k to a money market mutual fund option inside the 401k. The question I have is why are you so intent keeping your bank account balance high vs other accounts? It seem every post you make on buying a house you make some case on how not to use the money you have saved for a purpose of a down payment on your future owner occupied house.
from my comment above….
“This is probably the primary reason I wont end up taking out the loan. If I used $40k of my savings and $30k from my TSP, that leaves $60k in my savings account.
I can’t really think of a reason why I would need $60,000 in savings. Haha. I have definitely gotten used to having a butt load of cash in the bank, but like I’ve blogged about before, I think having more than $10,000 in the bank (outside of very near term expenses like our down payment) is pretty much silly since that money doesn’t grow.
401k is just way easier to type. forgive my laziness “
I took one: $7,000 at 3.25%, payback is 5 years so payment is $126/month. It’s giving us some more cushion as we transition into being homeowners. We are buying a 2,200 sq foot fixer-upper with 3bed/bath on 2 acres for $168,000. Mortgage interest rate is 3.25% as well.
We do little manageable debts like this. We have two car loans totaling $15k and $5k in student loans. Minimum payments on all including the 401k loan are 7% of our monthly gross. The mortgage/insurance/taxes on the home will be another 11% so we are within our means if we have a job loss. Or we could dump the cars. Or we could pay it all off now. For us right now we have good incomes but we are trying to do a lot in our lives: house, preschool for the little one, move ahead in careers. We feel that these manageable low interest debts are helping us. Like the cars: for $7/day ($6 toward principal and $1 for interest) I have a 2- year old car with 9,000 miles on it that provides reliable transportation. Right now it’s worth a $1/day to me to get to work on time and have safe/reliable transportation for my kid. The 401k is similarly providing some peace of mind for me and it meant we could move on purchasing a good little house while the interest rates are low. I wish that more writers would touch on subjects like this, about how to leverage debt wisely and measure the pros and cons, instead of treating it all like the plague.
Double taxation is the reason.
Suze Orman (I know she’s not a bloggers favorite) did a great job of explaining this.
When you pay back your TSP loan, you are paying it back with after-tax dollars (so you are taxed once).
Then when you withdraw funds when you reach retirement age, you pay tax on those same dollars again.
You take out $10,000 (tax free).
You pay back $10,000 (using money that you’ve already paid taxes on).
When you retire you pay taxes again on your TSP withdrawal.
I hope I explained it well, I think it may have been a little confusing!
I got around this because of my employer’s match. The total that they’ve contributed far exceeded what I borrowed.
That’s actually not true. Check it….
Double taxation is only true for the interest paid, not the actual principle.
Scenario 1. I borrow $30,000 from my 401k and use that as a down payment, I then use $30,000 from my personal savings account to pay back this loan obligation.
Scenario 2. I use $30,000 from my personal savings account as a down payment.
Do you get it? In either scenario I am using $30,000 from savings. Borrowing from my 401k does not change the tax implications on this $30k in any capacity. In both scenarios I end up $30,000 poorer in my savings account.
DO IIIIT. Conventional personal finance wisdom isn’t meant for people like you with a big stash and a crazy savings rate.
You have a good grasp of the risks and the rewards. Dive bravely into the abyss, and then report back!
I took a loan against mine to buy some land. Doing it made me really nervous at the time and it would take some serious dynamite for me to do something like that again. I do think timing happened to favor me in a big way, and it’s something to consider. I took the loan out just weeks prior to the start of the Great Recession and the value of the account started dropping. I actually lost LESS money by taking the loan value out of the mix. I punched the loan out in full in 2010 with my savings, giving a nice boost to the recovering assets. The timing when I took out the loan was pure luck but made a big difference. It enabled me to preserve assets.
If it helps I did take out a 1-year 401k loan to refinance the mortgage to get rid of the PMI. I paid it back in 6 months (lump sum at the end). It was better than paying another company the interest but I did miss out on about 0.1% of additional gain than if I left it in there but that was just luck. Also in my 401k plan you can still make contributions while you have an outstanding loan and receive the company match, so might want to make sure that will work for you. Though in my case the backup (in case of job loss) was in equities which were (and are) returning more than the interest on the loan so the cheapest source of cash was the 401k loan.
[…] I might take out a $30,000 401k loan just to piss some of you off. @ Punch Debt in The Face […]
Wow – you sound like my spouse. She wants to take out a 401(k) loan and just pay the house completely off ’cause she’s sure the market’s going to dive pretty soon and we’ve lost so much in the market on 2 separate occassions that, had we pulled the $ out of her 401(k), we’d have had this house paid off twice over. If she loses another $100k in her 401(k), (and she’s lost way more than that 2 times) I’m going to be in the dog house for quite awhile. I keep telling her NOT to do it ’cause the mortgage will be paid in 2 1/2 years and we refinanced to a 3.25 % interest rate. Tell me I’m giving her good advice – just in case she ends up right – ha! At least then I’d have something I could point to to show that I wasn’t the only one thinking this way.
[…] explained why, “I might take out a $30,000 401k loan just to piss some of you off.” Not me. Time would tell if this was a good move or not. You see, he can borrow at 1.75% […]
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