Strategically taking a 401k loan and/or no-penalty withdrawal

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Re: Strategically taking a 401k loan and/or no-penalty withdrawal

Post by CT-Scott » Tue Mar 24, 2020 3:40 pm

MangoMan wrote:
Tue Mar 24, 2020 3:38 pm
But there is still tax on the appreciated assets that you use to refund the 401k.
Gotcha, right. I think there was some confusion before about whether 401k loans were taxed. Even so, I'd like to run some comparisons assuming a possible low return on interest inside my 401k.
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Re: Strategically taking a 401k loan and/or no-penalty withdrawal

Post by vnatale » Tue Mar 24, 2020 5:21 pm

jhogue wrote:
Tue Mar 24, 2020 2:56 pm
The OP was talking about a 401k loan as an investment, not as a means to survival.

As an investment, a 401k loan is always a bad idea. Tax laws are written to ensure that pulling money out of a 401k will cost you money. In the long run, you are always ahead to leave an investment inside of your 401k and simply let the retained earnings and dividends compound as long as possible.

As for using such a loan to pay off high interest credit card debt, I never met anyone who borrowed their way to personal financial wealth. Have you?
I'm generally Mr. Anti-Debt! On all levels! Only for a business where it is definitely being used to purchase a highly productive asset.
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Re: Strategically taking a 401k loan and/or no-penalty withdrawal

Post by CT-Scott » Fri Mar 27, 2020 12:01 pm

So, I think this is the latest info on the 401k loan/withdrawal-related changes that are in the stimulus bill:
https://www.cnbc.com/2020/03/25/what-th ... ement.html

I'm not sure if there's still a chance that some of this will get removed or changed during the debate today. If not, per that article, it sounds like it will be:
  • This year, you’ll be able to take a coronavirus-related distribution of up to $100,000 from your retirement plan or IRA without the 10% early withdrawal penalty, according to the most recent version of the bill.
  • The bill also relaxes the rules around retirement-plan loans, allowing you to borrow up to $100,000 from your 401(k). That’s double the amount you can normally take.
  • Retirees who would normally take required minimum distributions from their retirement savings can waive them for 2020.
So, if you take a withdrawal, you won't get hit with the 10% penalty, but you'll still have to pay taxes.

Also, it's not clear as to what sort of "evidence" you would need to show to prove that it's coronavirus-related. I would think that the HIPAA laws might complicate that, so I wouldn't be surprised if they just "take your word for it," but we'll see.

I'm less interested in the withdrawal aspect, given the added tax-hit. But I could be tempted by the loan.
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Re: Strategically taking a 401k loan and/or no-penalty withdrawal

Post by CT-Scott » Fri Mar 27, 2020 1:48 pm

I actually didn't read that last article I linked to, but here's another one that I did read:

Coronavirus stimulus-package tax relief: Withdraw $100K from your IRA — and repay in 3 years with zero tax liability
https://www.marketwatch.com/story/coron ... =home-page

So, it sounds like you'll have 3 years to pay the income tax, and it sounds like you could just wait till the 3rd year to pay it all? Because it sounds like you also have the option to pay the entire distribution back within 3 years. Which, if you do, you won't have to pay taxes on it at all? So then it becomes a 0% 3-year loan? Maybe I'm still a little confused.

The article points out the various "qualifications" including a couple which are vague and will get further guidance from the IRS later. But, as I stated previously, I'm personally curious as to whether they'll really require *anyone* to provide evidence, seeing as this is a medical-related thing, and I would think that HIPAA laws would protect someone from needing to reveal medical details. But maybe not.
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Re: Strategically taking a 401k loan and/or no-penalty withdrawal

Post by CT-Scott » Fri Mar 27, 2020 2:11 pm

Well, now I'm just talking to myself :) but...

I did some more Googling. One of the existing qualifications for taking a "Hardship Withdrawal" from your 401k is already medically-related. And based on additional Googling, it sounds like HIPAA doesn't necessarily shield you from having to provide more specific evidence to your plan (or Employer?) in order to qualify for the withdrawal. So, it sounds like in order to take advantage of this opportunity, you may need to show evidence (including medical-related evidence) that you (or your spouse or child) have been affected directly by COVID-19.

There's still a possibility that some plans may relax requesting that info. And it's still a possibility that simply showing evidence that you (or spouse or child) contracted COVID-19 may be "all you need" and you may not need to tie it directly to a financial hardship? Again, still a lot of uncertainty here. Will have to wait for more details to emerge.
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Re: Strategically taking a 401k loan and/or no-penalty withdrawal

Post by CT-Scott » Sat Mar 28, 2020 8:17 am

Here's another article which adds a couple of interesting (unverified) tidbits:

401k withdrawal penalties would be waived under coronavirus stimulus package
https://fortune.com/2020/03/27/401k-wit ... lief-bill/

Notable quotes (emphasis added by me):
The legislation requires that the money be a “coronavirus-related distribution,” but the rules are loose. People diagnosed with the virus are eligible, along with anyone who “experiences adverse financial consequences” as a result of the pandemic, including an inability to find work or child care. Retirement plan sponsors are told to rely on employees’ word that they’re eligible.
The bill also makes it easier to borrow money from 401(k) accounts, raising the limit to $100,000 from $50,000. The payment dates for any loans due the rest of 2020 would be extended for a year.
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Re: Strategically taking a 401k loan and/or no-penalty withdrawal

Post by foglifter » Sat Mar 28, 2020 5:03 pm

CT-Scott wrote:
Tue Mar 24, 2020 3:40 pm
MangoMan wrote:
Tue Mar 24, 2020 3:38 pm
But there is still tax on the appreciated assets that you use to refund the 401k.
Gotcha, right. I think there was some confusion before about whether 401k loans were taxed. Even so, I'd like to run some comparisons assuming a possible low return on interest inside my 401k.
Double taxation does happen, but it only applies to the interest, not the principal. When you take a loan you're getting your pre-tax money, use it as post-tax money (you're not paying tax on it) and then you return it back. But the interest you pay is post-tax money (you paid taxes on it already), so when it's returned back to the account it "blends" with the rest of the account and will be taxed in the future when you start withdrawing from your 401k.

BTW there is no double taxation at all for Roth 401k accounts.
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Re: Strategically taking a 401k loan and/or no-penalty withdrawal

Post by CT-Scott » Mon Mar 30, 2020 10:32 pm

Let me give a simple example and open it up for discussion:

Let's say I have $150,000+ in the bank and I want to buy a $200,000. There are many ways to slice and dice this, but let's say I have an interest in paying off as much as the mortgage as possible, up front. Here are two possibilities:

1) I pay $100K cash, and then finance the other $100,000 over 10 years @ 3%.
2) I pay $100K cash, and then take a loan out of my 401k for the other $100K over 10 years @ 5.5% (payable to my 401k).

Which approach is better, and why?
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Re: Strategically taking a 401k loan and/or no-penalty withdrawal

Post by vnatale » Mon Mar 30, 2020 11:11 pm

CT-Scott wrote:
Mon Mar 30, 2020 10:32 pm
Let me give a simple example and open it up for discussion:

Let's say I have $150,000+ in the bank and I want to buy a $200,000. There are many ways to slice and dice this, but let's say I have an interest in paying off as much as the mortgage as possible, up front. Here are two possibilities:

1) I pay $100K cash, and then finance the other $100,000 over 10 years @ 3%.
2) I pay $100K cash, and then take a loan out of my 401k for the other $100K over 10 years @ 5.5% (payable to my 401k).

Which approach is better, and why?
Let's assume no inflation and, therefore, those rates are both nominal and real rates. Not realistic but this is complicated enough so some simplifying assumptions are necessary.

1) Over ten years you've have out paid a total of $117,231 on the morgage. But I have to also assume you can only earn (safely) 3% at best. So your $50,000 earning 3% each year turns into $67,196 after ten years.

Therefore after 10 years you own a house worth $200,000 (remember no kinds of inflation) at a net cost of $217,231. You have now have assets of $267,186 at a cost of $217,231. That's an increase of $49,955 in your net assets. I'm also assuming you get no tax benefit from your interest payments since it's so tiny in relation to the standard deduction for a married person such as yourself.

2) You turn that same $50,000 into $67,196. This is now turning into somewhat of a trick question. No matter what rate you are paying to your 401(k) it's a wash. On the one hand you are earning this good rate of 5 1/2% but on the other it is all being financed by you from another pocket. Therefore, you net nothing on this.

What is missing is the rate that you'd be getting in your 401(k) if you didn't borrow and repay into it. And, then doesn't that simply come down to if that rate is greater than or less than 3% mortgage offer you have?

If you earning more than 3% in the 401(k) then it'd make sense to keep the money in the 401(k) and borrow. If you were only earning 1% in the 401(k) then it would not make sense to borrow at 3% but instead to use the borrowed money from the 401(k).

I did all the calculations in 1) assuming I could do something similar for 2) but not enough detail is provided for 2) (mainly the 401(k)'s projected earning rate) to make a direct comparison to which would provide the greater net assets at the end of the ten years.

And, I dutifully tried to avoid any tax considerations.

Vinny
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Re: Strategically taking a 401k loan and/or no-penalty withdrawal

Post by mathjak107 » Tue Mar 31, 2020 5:38 am

sophie wrote:
Mon Mar 23, 2020 9:47 pm
If it weren't for the double taxation, it would be kinda cool to pull $100K out of your 401K, invest it in the PP/GB, and then pay it back a year later having enjoyed some nice gains.

The double taxation though makes that not a good idea at all - unless your back is against the wall and your only other choice is a credit card at 20+% interest.

I've seen people argue both ways, but I don't get how it ISN'T double taxation. You take the money out of the account and pay tax on it, fair because you didn't pay tax on it going in. Then you pay the money back with after-tax money. Years in the future, you take the money out and lo and behold, it's taxed once again. The fact that the future taxes are probably a lower tax bracket and also the dollars will have been inflated in the meantime, doesn't make it better.
this is certainly not true in a traditional .

it is not double taxed .... only any interest you paid is double taxed .

just imagine you borrow 100k out ... . it was never taxed ... so you have 100k in untaxed money in your hand ... ...when you put it back either immediately or down the road , it is no different than taking 100k out as a loan and deciding ooops don't need it after all, and you put it back in ... you are REPLACING THE 100K OF UNTAXED MONEY IN EFFECT . ....

you could twist things a bit and say that the money you put back was money that was taxed from your pay check .

if you say it was money taxed from your pay check you put back, then it is washed out with the 100k untaxed money that you pulled out that has now been paid back and you are keeping tax free ..... in either case it is washed out ....you only get taxed once down the road.

however any interest you pay on that loan will get taxed 2x but never the loan amount .... this is suzie ormann nonsense she used to say .
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Re: Strategically taking a 401k loan and/or no-penalty withdrawal

Post by CT-Scott » Wed Apr 01, 2020 12:00 pm

Here's a new article on this:

New Stimulus Bill Unlocks IRA and 401(k) Dollars for Financially Affected
https://www.entrepreneur.com/article/348352

Notable quote:
Who Can Take the Penalty-Free Distribution?

The distribution rules are personal to the account owner and include anyone who has experienced “adverse financial consequences” from the pandemic. This is a broad definition and one that the account owner claims with their account administrator. Adverse financial consequences include being subject to a quarantine, being furloughed or laid off, having your business closed or hours reduced or being unable to work due to childcare changes and availability (closed schools, closed childcare facilities). The rule also includes anyone who has been diagnosed with COVID-19 or whose spouse or dependent is diagnosed with the virus.
What constitutes a "quarantine"? Forced "stay at home" requirements by a state could potentially be considered a quarantine. Feeling like you have symptoms and having a doctor advise you to self-quarantine would surely qualify, no? Would you need some sort of "evidence" to provide to your plan administrator? I'll continue to monitor this.

Edit: The 401k account I have through my employer is with Fidelity. They have a notice on their "loan/withdrawal" page indicating that they are working on this and advises to "Please check back here for future updates."
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Re: Strategically taking a 401k loan and/or no-penalty withdrawal

Post by Xan » Wed Apr 01, 2020 12:08 pm

Why would I want to take money out of my IRA? Isn't the point to put money into it? I mean, yes, if I need it to live on, which is what this is for. It doesn't seem like a useful tool otherwise.
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Re: Strategically taking a 401k loan and/or no-penalty withdrawal

Post by mathjak107 » Wed Apr 01, 2020 12:13 pm

I agree ...that is the last place I would touch
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Re: Strategically taking a 401k loan and/or no-penalty withdrawal

Post by CT-Scott » Wed Apr 01, 2020 1:19 pm

Xan wrote:
Wed Apr 01, 2020 12:08 pm
Why would I want to take money out of my IRA? Isn't the point to put money into it? I mean, yes, if I need it to live on, which is what this is for. It doesn't seem like a useful tool otherwise.
We're looking to move, and I like the idea of taking a 401k loan (even just super-short-term where I'd plan to pay it back early) to have cash on hand to buy a new house before selling my current house. Better still, perhaps, if I feel that housing prices could fall and I could pick up a better bargain. I don't expect mortgage rates to rise significantly in the forseeable future.

Tied to this is a belief that the stock market will be, at best, stagnant for a long while, such that the 5.25% interest rate I pay back to myself would provide better returns than I would get by leaving that money inside of my 401k.

Also consider...if I lose my job while I've got that loan out and am unemployed for a while, the tax hit I'd have to pay (from the loan default) would be minimized by the lower tax bracket I'd be in while I was out of work.

The term "dry powder" is often used to describe someone who is getting ready to take advantage of some stock price "deals" but can also be applied to "deals" outside of the stock market, no?

This logic probably doesn't make much sense for a 25-year-old who hasn't accumulated a whole lot in their 401k yet. If you're a bit older and have accumulated a lot more, borrowing $50K for a while shouldn't be a big hit on your retirement portfolio, and would give you some freedom and calm during an economic recession.
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Re: Strategically taking a 401k loan and/or no-penalty withdrawal

Post by Xan » Wed Apr 01, 2020 1:54 pm

Makes sense, thanks.
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Re: Strategically taking a 401k loan and/or no-penalty withdrawal

Post by vnatale » Wed Apr 01, 2020 2:54 pm

Along these lines....changes related to the Act just passed....Both Mathjak and I are both great fans of Michael Kitces...I am now reading through his, as usual, excellent, extremely thorough analysis here:

https://www.kitces.com/blog/analyzing-t ... 2-52304873

Vinny
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Re: Strategically taking a 401k loan and/or no-penalty withdrawal

Post by mathjak107 » Wed Apr 01, 2020 3:06 pm

In my last company my buddy decided to take a 401k loan to buy a new car ..well the company fell on hard times ,was taken over but the 401k was closed ....he had to pay back the entire loan and could only refinance the car , not at the low rates the factories offered but at a ridiculous rate as a used car..

Your pay back time frame you planned on is only as good as your company solvency
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Re: Strategically taking a 401k loan and/or no-penalty withdrawal

Post by Xan » Wed Apr 01, 2020 3:15 pm

mathjak107 wrote:
Wed Apr 01, 2020 3:06 pm
In my last company my buddy decided to take a 401k loan to buy a new car ..well the company fell on hard times ,was taken over but the 401k was closed ....he had to pay back the entire loan and could only refinance the car , not at the low rates the factories offered but at a ridiculous rate as a used car..

Your pay back time frame you planned on is only as good as your company solvency
That concern wouldn't apply to an IRA, though, right?
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Re: Strategically taking a 401k loan and/or no-penalty withdrawal

Post by mathjak107 » Wed Apr 01, 2020 4:05 pm

An ira loan ? Does such a thing exist ? I don’t think so ..new bill only waves penalty on money pulled out ..I saw nothing about a loan process
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Re: Strategically taking a 401k loan and/or no-penalty withdrawal

Post by Xan » Wed Apr 01, 2020 4:18 pm

It seems to allow up to $100,000 to be withdrawn from an IRA or 401(k) with no penalty. Seems that the tax still needs to be paid.

Sorry, I don't have a 401(k) and I have no idea how a loan out of one works. I'm just (personally) interested in the no-penalty withdrawal, although it doesn't seem like a good idea in most cases.
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Re: Strategically taking a 401k loan and/or no-penalty withdrawal

Post by CT-Scott » Wed Apr 01, 2020 4:29 pm

mathjak107 wrote:
Wed Apr 01, 2020 3:06 pm
In my last company my buddy decided to take a 401k loan to buy a new car ..well the company fell on hard times ,was taken over but the 401k was closed ....he had to pay back the entire loan and could only refinance the car , not at the low rates the factories offered but at a ridiculous rate as a used car..
Are you saying that he didn't lose his job but they called the loan? That would be pretty unusual/bizarre. Whereas, if he lost his job, he could have chosen to default on the loan, in which case he'd still have to pay the 10% penalty and taxes on whatever the balance was at the time, but if he was out of work, he would have likely fallen to a lower tax bracket.
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Re: Strategically taking a 401k loan and/or no-penalty withdrawal

Post by mathjak107 » Wed Apr 01, 2020 5:08 pm

The company was taken over by a new company after it failed , no one lost their job ....the old 401k no longer exists to pay it back to...that is what happens when your company fails ...

In fact for the rest of us it was a learning experience...when the company no longer paid the 401k administrators the 401k was locked and liquidated ..it then gets turned over to the courts in receivership...... all money got a court appointed custodian ...it took many months for us to be able to transfer the money out in to our iras .......

We worked there for decades ...we never were aware at how bad things were for the company until the end ....I learned I would never leave a 401k with a company I wasn’t working at.

So loans are only good as long as you work for the company or the company exists ....

You can’t pay back a loan if you no longer work for the company beyond 60 days
Last edited by mathjak107 on Wed Apr 01, 2020 5:26 pm, edited 2 times in total.
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Re: Strategically taking a 401k loan and/or no-penalty withdrawal

Post by CT-Scott » Wed Apr 01, 2020 5:25 pm

OK, thanks for the added detail. I'm not particularly concerned about any of that, to be honest. I understand that should I take a 401k loan there could be scenarios where I'd suddenly find that I needed to default on the loan and pay the necessary taxes. That would not be my plan, but I'm willing to take that risk.

Getting back to the "withdrawal" side of this...it appears that you can take a $100K withdrawal with the intention of treating it like a 3-year loan with the option of waiting 3 years to then pay it back in full. So, one could take that $100K and put it in a CD, for example, earn interest, then pay the full amount back after 3 years. Of course, most would expect/hope that other fund options inside of your 401k could earn more interest over 3 years than you'd earn with a CD, but depending on how this current crisis goes, who knows. And putting in a CD is just one no/low-risk option. You could, of course, choose to "gamble" with it (or some part of it) via a higher-risk option.
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Re: Strategically taking a 401k loan and/or no-penalty withdrawal

Post by mathjak107 » Wed Apr 01, 2020 5:30 pm

CT-Scott wrote:
Wed Apr 01, 2020 5:25 pm
OK, thanks for the added detail. I'm not particularly concerned about any of that, to be honest. I understand that should I take a 401k loan there could be scenarios where I'd suddenly find that I needed to default on the loan and pay the necessary taxes. That would not be my plan, but I'm willing to take that risk.

Getting back to the "withdrawal" side of this...it appears that you can take a $100K withdrawal with the intention of treating it like a 3-year loan with the option of waiting 3 years to then pay it back in full. So, one could take that $100K and put it in a CD, for example, earn interest, then pay the full amount back after 3 years. Of course, most would expect/hope that other fund options inside of your 401k could earn more interest over 3 years than you'd earn with a CD, but depending on how this current crisis goes, who knows. And putting in a CD is just one no/low-risk option. You could, of course, choose to "gamble" with it (or some part of it) via a higher-risk option.
The loan is actually from assets liquidated in your 401k .. The money usually comes out of your 401(k) account balance. In many plans, the money is taken in equal portions from each of the different investments you hold. For instance, if you have money in four mutual funds, then 25% of the loan total comes from each fund.

In other 401(k) plans, you may be able to designate which investments you'd prefer to tap to put together the total loan amount.

So you don’t get to double dip ,keeping the money invested while borrowing it out and investing it elsewhere
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Re: Strategically taking a 401k loan and/or no-penalty withdrawal

Post by CT-Scott » Wed Apr 01, 2020 6:04 pm

mathjak107 wrote:
Wed Apr 01, 2020 5:30 pm
The loan is actually from assets liquidated in your 401k

...

So you don’t get to double dip ,keeping the money invested while borrowing it out and investing it elsewhere
Of course. I would have never thought it worked any other way. But if the stock market continues to fall (and eventually just be stagnant) over the next 3 years, the converse point is that you have protected/grown your money more than you would have had you left it in there.
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