“Accountants are very good at doing what the average person just can’t,” says Cole. “In fact, they’re so sophisticated in understanding the tax system that they might find you don’t owe the IRS any money at all.”
Should I borrow from my 401(k) to buy a home?
The good news: More Americans than ever–more than 50 million, according to the Profit Sharing/401(k) Council of America–are contributing to their 401(k) plans. The bad news: There’s more temptation than ever to raid that growing pot of money. But borrowing against your 401(k) is unwise. “It should really be a last resort,” says Jason Cole, managing director of Abacus Wealth Partners in Philadelphia. “Once you think you can borrow from your 401(k) like any credit line, you’re getting yourself into very dangerous territory. A 401(k) just shouldn’t be used as a vehicle to afford your home.”
Another caveat: If you change jobs, you have to pay all that borrowed money back in short order. If you can’t, it will be treated as an early withdrawal, subject to applicable income taxes and a 10% penalty. Consequently, even if you get your dream job offer, you may be inextricably tied to your current job. “If I’m an employer, I love [workers who keep] borrowing from 401(k)s, because people will always think twice about leaving me,” says Alvin Rogers, a certified financial planner with Financial Legacy Management Inc. in Little Rock, Arkansas.
Of course, there are a few exceptions to this rule but buying a home isn’t one of them. Maybe you’re drowning in credit card debt with a 28% interest rate and you need to get a handle on the debt before it completely swallows your finances. Or maybe you have sudden and unexpected medical or IRS bills that your emergency fund can’t cover. In such extreme situations, you can think about borrowing from your 401(k). But remember: Every time you make a withdrawal, that’s less money compounding toward a secure retirement.
Be mindful that, though you will be repaying yourself interest on the loan, it will be lower than the return you might expect on your 401(k) investments. To fully appreciate the difference in value over time, use the “Should I borrow from my 401(k) plan?” calculator on Bankrate.com.
How can I catch up on my retirement savings?
For legendary stories of people frittering away their fortune, you need look no further than “Iron” Mike Tyson. The former heavyweight boxing champ earned millions of dollars, only to end up broke once his career slowed down. This all-too-common scenario scares the daylights out of up-and-coming heavyweight Eddie Chambers. So to create a solid financial future, Chambers, 26, has committed to investing 25% of his earnings in a variety of savings vehicles, including an IRA. While Chambers’ savings are small so far, his growing purses should ensure a solid foundation for his family.
“Some boxers spend until it’s all gone,” he says. “I’m not going to do that. I’m going to save, pay taxes, and do all the things I’m supposed to do.