- 1 what happens if you don't pay back a 401k loan
- 2 Don’t Forget Your 401(k) When You Leave Your Job! Here’s What You Can Do With It
- 2.1 Choices For Your 401(k) When You Leave Your Job
- 3 What happens if you can't pay back 401k loan
- 4 Considering a 401(k) Loan? Know These Hidden Dangers
what happens if you don't pay back a 401k loan
Modified on: Thu, 18 Aug, 2016 at 9:19 AM
We want to keep you as a customer, so please make every attempt to pay us back on time. If you find yourself in a situation that makes it difficult to make your scheduled repayment, please contact us immediately by writing to [email protected] or calling 01-631 1215.
We do our best to help our customers avoid these situations and the resulting consequences which can include:
· Suspension of your access to our lending service
· Reporting your account delinquency to multiple credit bureaus
· Involvement with external collection agencies
· Possible legal action
Remember, a positive outcome for you is a positive outcome for us, so let us assist you with work through and finding a solution to any issues you may face during the loan period.
Don’t Forget Your 401(k) When You Leave Your Job! Here’s What You Can Do With It
A 401(k) plan is an awesome vehicle to save for retirement! В
You get to lower your tax basis (the income you get taxed on). В You might get a great company match… What’s not to like?
But what do you do with your 401(k) if you leave your job?В
Do you take the 401(k) with you?В Where do you put it?В Should you leave it?
You have some choices for your 401(k) which I’ll outline for you below:
Choices For Your 401(k) When You Leave Your Job
Leave the money in your prior employer’s 401(k) plan
Easy – What’s easier than doing nothing?В If you leave the money in your prior company’s plan then you don’t have to worry about paperwork or finding new funds to put the money into.
Continue to save tax-deferred – Your money still gets the benefit of growing tax-deferred in the old 401(k) plan.
Same investment choices – You may already be happy with the investments your 401(k) plan was in.В Moving the money may require you to find new funds which, in some cases, could cost you more in expenses.
Re-balancing options – Many 401(k) plans offer re-balancing options where the fund company will automatically re-balance your investments based on your instructions or alert you to re-balance once the investments grow a specified percentage from their original allocation.В An IRA plan may not offer this.
No cost to move between plan options – The 401(k) plan may not cost you anything to move money between the different investments offered in the plan.В With an IRA you may have to pay commissions.
Not good investment choices – Not all 401(k) plans are created equal.В Some only offer a few funds to choose among while others may have high fund expenses.
Less options for beneficiaries and withdrawals – The old 401(k) may limits on your future withdrawals and who you can designate as a beneficiary.
Plan can change – You old employer can decide to move their 401(k) to another company that doesn’t offer the same options or could cost you more in fund expenses (which means a lower overall return).
Roll the money to your new employer’s 401(k) plan
Continue to save tax-deferred – Just like leaving your money in your prior employer’s plan, your money can continue to grow tax-deferred in the new plan.В You also get to add money and possibly add employer matches.
Consolidate 401(k) accounts – You can keep all of your 401(k) accounts in one place, making them easier to manage.В Over time, a person may have 401(k)’s from a number of jobs so it can be nice to have all of that money consolidated in one place.
May have plan options you prefer – Your current employer may have a great plan with lots of investment options and very low fees.В Sometimes a large corporation will have funds in their 401(k) plan that have lower fees than are available if you tried to buy the same fund on your own.
Loan option may be available – You can’t take a loan against a 401(k) plan where you aren’t employed and you can’t take a loan against an IRA.В It may not be the best option to take a loan but you at least have the option with your current employer’s 401(k) plan.
Re-balance options may be available – You new employer’s plan may have options for automatic re-balancing of your portfolio and/or alerts when the allocations change.
Defer distributions if over 70 1/2 and still working – You may be able to hold off required distributions meaning you get to let the money to continue to grow tax-deferred until you need it.
Limited investment options – There may not be many option for your money.
High fund expenses – Some company plans have investment options with higher fees than if you invested on your own in an IRA.
Plan could change – The company could change their plan and you may end up with less investment choices or higher fund fees.В You can’t roll the money back out of the plan until you leave the company.
New company has no plan – Not all companies have 401(k) plans.В In this case you have no option to roll money into a new 401(k) plan.
Limited withdrawal and beneficiary options – Just like in an older company’s plan, there may be limitations on future withdrawals and who you can designate as a beneficiary.
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What choice would you pick for your 401(k) if you left your job?
Continued tax-deferred savings – You still get to earn tax-deferred savings until you take the money out.
Keep accounts together – If you have 401(k)’s from previous employers, as well your own IRA, you may want to roll everything into one IRA so you can better manage your money.В With everything in one account it is much easier to pay attention to asset allocation and you re-balance all of the money one time.
More investment choices – When you put the money into a Rollover IRA you get to choose the fund company meaning you can choose which company has the most choices for you.В Most IRA custodians offer way more investment choices than a 401(k) does.В In fact, with a brokerage account linked to your IRA you can have thousands of places to put your money.
Better asset allocation – With more investment choices you also get more options for asset allocation.В Sometimes there isn’t much diversity in the choices in a 401(k).В You can fix this when you put your money in a rollover IRA.
More choices for timing – When the money is in a rollover IRA, rather than a 401(k), you can pretty much add to the account and move money between funds whenever you want (when the market is open to trade that is).В With a 401(k) you pretty much add to the account when you are paid and some plans have limitations on how many moves you can make with your money.В A rollover IRA allows you more freedom.
Penalty-free withdrawal for education and first-time homebuying –В A rollover IRA may allow you the option to take money out, penalty free, for education expenses as well as for a first-time home purchase ($10,000 limit).В You still pay income taxes but this is a nice option you don’t have with a 401(k).
Can’t take a loan – I wouldn’t say this is a great option anyway, but there may be times when it’s necessary.В A rollover IRA doesn’t have the option to take out a loan while a 401(k) may.
Your 401(k) may be in old company’s stock – If part of your 401(k) is in your prior employer’s stock then there are special considerations to take into account regarding taxes and Net Unrealized Appreciation.В Check out this article on MarketWatch for more information on moving company stocks in a 401(k) to an IRA.
May not have same investment choices as 401(k) – Even though you may have a ton of choices in a rollover IRA you may not have the exact same choices as you did in your 401(k).В Or if you do have the options there may be high commissions on the trades.В If you like the options in your 401(k) then it could be less expensive to keep your money there rather then buy the same investments in a rollover IRA.
Commission costs – Many times, you can move money between investments in a 401(k) without and fees or commissions.В In a rollover IRA, depending on the plan, you may have to pay commissions when you move money between investments.
Too many choices – Thousands of options sounds great until you have to pick out a few of them.В Then the options are overwhelming.В More options means more research and work.В For some, too many choices can lead to paralysis analysis.
You get cash. Now! – You get access to the money in your 401(k) to do with as you please.В This could come in handy of you have some severe debt to take care of.
Early withdrawal penalty – If you are under 59 1/2 then you will be subject to a 10% early withdrawal penalty.В Right off the bat you lose 10% of your money.
Taxes – On top of an early withdrawal penalty, you will also get hit with a 20% tax hit which could even turn our to be more when you file your taxes.
Loss of earning power – You lose out on the opportunity cost of what that money could have earned had you left it to grow tax-deferred until retirement.
Small amounts add up – Your 401(k)’s from various jobs may not add up to much individually, but together, and over time, the money can add up to a tidy sum.В When you cash out your 401(k) every time you switch jobs you miss out on building wealth.
So what should you do with your 401(k) if you leave your job?
Personally, I like to have control of my money and have the option to change the investments as I like.В I recently moved money from my prior job to a rollover IRA and the process was pretty easy overall. В I was fortunate that my old job had a good plan and I was able to nearly duplicate the funds in my rollover IRA.
Still, you need to look at what works best for you.В
I think there are a lot of easy options to invest with in a rollover IRA if you aren’t investing savvy, but for some people it might be less worrisome to leave their money in their 401(k).
In my opinion cashing out is the least desirable option.В Getting a nice lump sum seems nice but you take a big penalty and tax hit and then lose out on future earnings.
Seriously consider the consequences of cashing your 401(k) out.
Some places to open a rollover IRA
Most investment firms these days have options for opening up a rollover IRA.В If you are considering opening up a rollover IRA look at the investment options, fund fees, custodian fees, and commissions. В (Here are some things to consider if you’re opening up a brokerage account).
Some popular places to open up a rollover IRA are Vanguard, Fidelity,В Charles Schwab, and many other discount brokerages.
If you want an x-ray into the fund fees in your 401(k) check out either Personal Capital or FutureAdvisor. Both can analyze your fund fees so you can see if your funds are costing you too much.
A few other options for your 401(k)
You may be able to rollover a 401(k) to the following places as well as those described above: Roth IRA, SEP-IRA, 457(b),В 403(b), profit-sharing plan.
What happens if you can't pay back 401k loan
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Considering a 401(k) Loan? Know These Hidden Dangers
401(k) loans have become a popular source of credit. They have interest rates that are almost always lower than the alternatives. Because they’re secured, you don’t run the risk of building up large amounts of unsecured debt. And if they’re offered by your employer, you can get them without even having to qualify based on your credit. The payments can be handled out of your paycheck so you hardly know that it’s happening.
But the very simplicity of borrowing against your 401(k) plan covers up some hidden dangers that you need to be aware of if you’re considering taking out a 401(k) loan — even for a down payment on real estate.
1. You Might Reduce Your Retirement Contributions
If you’re making a monthly payment on your 401(k) plan to pay back the loan, you may reduce your contributions to the plan itself.
For example, if money is tight — and that’s usually the reason why you’d be looking to borrow in the first place — you might reduce your payroll contributions into your retirement plan in order to free up more of your paycheck to cover the loan payment.
If you were contributing 10% of your paycheck to the 401(k) plan before you took the loan, you might reduce that to 6% or 7% so that you could be able to make loan payments without hurting your budget.
2. You May Earn Less in Your Plan on the Amount of the Loan
When you take a loan from your 401(k) plan, the interest that you pay on the loan becomes the income that you earn on that portion of your plan. So instead of earning stock market-level returns on your 401(k) plan investments, you instead “earn” the rate of interest that you are paying on your loan.
That may not be anything close to an even match.
401(k) plan loan terms generally set the rate of interest on the loan at the prime rate plus one or two percentage points. Since the prime rate is currently 4%, if your plan trustee provides an interest charge of the prime rate plus 1%, the rate on your loan will be 5%.
Now, if we happen to be experiencing a particularly strong stock market — one that is consistently showing double-digit returns — that 5% return will look less than spectacular.
If you have a $40,000 401(k) plan and half of it is outstanding on the loan to yourself, that money will be unavailable to earn higher returns in stocks. You might be earning, say, 12% on the unencumbered portion of your plan, but only 5% on the loan amount.
The 7% reduction in the rate of return on the loan portion of your plan will cost your plan $1,400 per year. That’s the $20,000 loan amount outstanding, multiplied by 7%.
If you multiply that amount — even by declining amounts — over the loan term of five years, you could be losing several thousand dollars of investment returns in stocks on the loan portion of your plan.
If you often or always have a loan outstanding against your 401(k) plan, that lost revenue can total tens of thousands of dollars over several decades. You’ll miss that when retirement rolls around.
3. Taxes and Penalties May Apply If You Leave Your Job
This is probably the biggest risk when taking a 401(k) loan. The loan must be repaid while you are still employed with your company. In this day and age, when so many workers change jobs so frequently, this is a major problem. Even if you roll your 401(k) over to a new employer, the loan with your previous employer must still be satisfied.
According to IRS regulations, if you leave your employer and you have an outstanding 401(k) loan, you must repay your loan within 60 days of termination. If you don’t, the full amount of the unpaid loan balance will be considered a distribution from your plan.
Once that happens, your employer will issue a 1099-R (Distributions From Pensions, Annuities, Retirement or Profit-Sharing Plans, IRAs, Insurance Contracts, etc.) that reports the amount of the outstanding loan to both you and the IRS. You will be required to report the amount shown as a distribution from your retirement plan on your tax return.
Once you do, the unpaid loan amount will be fully taxable as ordinary income. In addition, if you are under age 59 ½ at the time that the distribution occurs, you will also be assessed a 10% early withdrawal penalty tax. If you are in the 15% federal tax bracket, and under 59 ½, you will have to pay 25% on the amount of the unpaid loan balance. You will also have to pay your state income tax rate on the balance as well.
If your combined federal and state income tax rates — as well as the 10% penalty — total 30%, then you will have to pay a $6,000 total tax on an unpaid loan balance of $20,000. And most likely, you won’t have the proceeds from the loan available since they will have been used for other purposes. Worst of all, there are no exceptions to this rule.
4. A 401(k) Loan May Have Loan Fees
A 401(k) loan may require that you also pay an application fee and/or a maintenance fee for your loan The application fee will be required to process the loan paperwork, while the maintenance fee is an annual fee charged by the plan trustee to administer the loan.
If your plan trustee charges an application fee of $50, and a $25 annual maintenance fee, you will have paid a total of $175 in fees over the five year term of the loan. If the loan amount was $5,000, the total of those fees will be equal to 3.5% of the loan amount. That will also work to reduce the overall return on investment in your 401(k).
One of the biggest advantages to 401(k) loans is that they are easy to get. But it can also be one of the biggest disadvantages. Generally speaking, any type of cash that is easy to access will be used. That is, if you take one loan, you’ll take another. And then another.
All of the hidden dangers associated with 401(k) loans will be magnified if you become a serial borrower. That will mean that you will always have a loan outstanding against your plan, and it will be compromising the plan in all of the ways that we’re describing here.
It’s even possible that you can have 401(k) loan balances outstanding straight through to retirement. And when that happens, you will have permanently reduced the value of your plan.
6. Compromising the Primary Purpose of Your 401(k) for Non-Retirement Purposes
The ease and convenience of 401(k) loans has real potential to compromise the real purpose of your plan, which is retirement, first and foremost. It’s important to remember that a 401(k) loan puts limitations on your plan. As described above, one is limiting your investment options, and your investment returns as a result.
But an even bigger problem is the possibility that you will begin to see your 401(k) plan as something other than a retirement plan. If you get very comfortable using loans in order to cover short-term needs, the 401(k) can begin to look something more like a credit card or even a home-equity line of credit.
Should that happen, you may become less concerned with the long-term value and performance of the plan — for retirement purposes — and give it a priority to the plan as a loan source. For example, since you can borrow no more than 50% of the vested balance of your plan, to a maximum of $50,000, you may lose interest in building the balance of your plan much beyond $100,000. Instead, your contributions may become primarily aimed at repaying your loan(s), rather than increasing the balance of the plan.
It’s more of a psychological problem than anything else, but that’s the kind of thinking that could overtake you if you get too comfortable with borrowing from your plan.
Take a 401(k) plan loan if you absolutely need to, but never get carried away with the practice. Like a credit card, it can be easier to get deep in debt on a 401(k) loan than you might imagine. And then you’ll just have to dig yourself out of that hole.