Sometimes things happen in life that requires you have money to make it workable. Why have a retirement account when you have a financial situation that requires your immediate attention.

If you know about 401K loan rules, there are ways to borrow money from your IRA account without early withdrawal penalties.

Based on recent studies, at least 75% of 401K pension plans have early withdrawal rules with loan program.

While borrowing from your 401K has many benefits, there are some pitfalls one should know about.

The best financial advice is to leave your retirement account alone, but your financial situation might be bad enough to warrant seeking a loan from you nest egg.

Getting a loan against your 401K comes with strict rules that must be adhered to, unless you want the IRS knocking on your door seeking penalties for early 401K withdrawal.

During the last financial melt-down, at least 30% of participants in retirement programs got 401K loans.

Your ability to tap into your 401K might be the only way out of your financial situation, but it does come with potential risk if your payback calculation proofs unreliable.

Here Are Some 401k Loans Basics

With thousands of retirement plans in America, the 401K loan rules are not so clear-cut, but there are many similarities.

If you’re considering taking a loan against your 401k, your first step is to ask your plan provider about early withdrawal rules.

Based on our research, most retirement plans would have a minimum loan amount in place. The most common minimum 401K loan amount is $500 or $1,000.

Another similarity is the fact that you can only borrow up to 50% of your retirement balance, but cannot be more than $50,000.

Keep in mind, some plans would restrict your borrowing to the funds you directly contributed, not the matching funds provided by your company.

The available funds will include any outside balance you transferred into the 401K.

If the needed fund is withdrawn as a personal loan, you have at most five years to repay it.

On the other hand, if you’re seeking the 401K loan for home purchase, you’re given a maximum repayment term of 15 years.

Other similarity among retirement plans is the repayment of the borrowed funds in equal installments, which must be taken directly from your paycheck until the 401K loan is paid in full.

While some plans would allow you to pay the outstanding balance early without any penalties, the terms of the loan cannot be changed once in effect.

Most plans would set your 401K loan interest rate at the prevailing prime rate plus 1%. The rate is usually fixed, and will be set in place on the day the loan is issued.

Another common trait among retirement plans is the charging of loan origination fees for your early withdrawal. Fees are much lower than regular bank loans, and can be as low as $26 up to $200.

You pay no extra taxes for taking a loan against your 401k, but expect the IRS to come calling if you should default.

Meaning the amount you borrowed would be subject to taxation if your 401k loan defaults.

Here Are Some Advantages of Borrowing from Your 401k

When times are hard there are far worst alternatives than borrowing money from your 401K retirement fund.

Why increase your credit card balance when you can borrow the funds you need at the lowest rate possible.

You should also stay away from payday loan predators and get the funds you need from your IRA retirement account. Here are other advantages that come to mind with 401K loans.

Your loan can be initiated with very little paperwork, and there is no litmus test to determine your true needs.

Most plans make it possible to get your 401K loan by just logging into your account and filling out the required forms.

The loan amount can be made available in just a few days with a mailed check or direct wire transfer into your checking account.

The only time more paperwork is required is when you’re seeking your 401k loan for home purchase.

Even your friendly bank manager cannot grant you a personal loan without running a credit check or asking all about your business.

So the need for less paperwork and questions is a huge advantage for getting your funds through your 401K.

Another great advantage is the interest rate charged on your 401K loan. As a side benefit, all the interest payment you make goes directly into your retirement funds for your future benefit.

No other loan program can even come close to matching this low interest rate and benefits derived from taking a loan against your 401k.

Here Are Some Disadvantages of Taking a Loan against Your 401k

With the above listed advantages of 401K loans over traditional borrowing, one must not forget about some of the known and potential disadvantages of dipping into your 401K early.

One cannot ignore the fees charged for accessing your own retirement funds early. The fees charged can range from $26 to $200 based on the amount you’re borrowing from your 401K.

Also, some plan providers are known to charge annual maintenance fees on top of the interest rate charged.

All those fees and maintenance charges can make your 401K loan more expensive than you originally thought.

That is why you should do your own due diligence before seeking any loans from your 401K account.

While your 401k loan default will not affect your FICO score or credit rating, it does create more uncertainty for your finances.

If you default on your 401K loan it is then treated as distribution, which subjects the funds to taxation plus the 10% early withdrawal penalty.

The penalty will be enforced by the IRS, if you’re under the age of 59.5. With the loan proceeds gone, come April 15 Uncle Sam would be expecting you pay-up or face additional penalties.

When you pull money out of your retirement account, you’re in effect stalling any growth potential that could have accrued with the funds untouched.

The tax-deferred growth of your 401K is impacted significantly, until you pay back the borrowed funds.

As you know, retirement accounts perform much better if left untouched for a very long time.

Your 401K loan payments would also be coming from funds that have been taxed by the IRS. Your regular contribution is normally done with no taxes taken out.

So if you look closely at the numbers, you’ll be paying double taxation on the loan amount you paid back into your retirement fund.

You’re paying back the loan with taxed funds and the retirement plan payout would also be taxed when it reaches withdrawal time.

Final Thoughts

Any good financial adviser will tell you borrowing money from your 401K might lead to fiscal insanity.

But if you’re trapped and have no other options, your retirement funds can be used as a source of emergency funds.

With retirement savings at their lowest level in decades, borrowing against yours should only be considered as a last option.

Before getting your 401K loan funds, make sure you have a repayment plan in place.

My suggestion is to only consider getting funds from your 401K if you plan to invest in real estate that also generates positive monthly cash-flow.

While any 401k loan default will not impact your credit rating negatively, the additional taxes due to the IRS would not be forgiven regardless of your financial situation.

Now you know how to take money out of your 401k, but make sure you have a workable plan for the funds and have a reasonable repayment plan in place before accessing the funds.