Last updated on March 28th, 2023 at 02:00 pm
Before robbing your sacred 401(k) plan to fund your vacation, consider this: The average Social Security monthly benefit will almost cover your rent/mortgage payment. What about food, gas, and life essentials? Your good intentions to repay the funds over time may not happen. Life tends to get in the way. Consider what your future self will think that it was not a good idea. What about your golden years?
Some hard facts
Most people will not retire well. Lack of planning, robbing their 401(k) plan, and other reasons will basically leave many in bad shape come retirement in their late 60s or early 70s. One key reason of course is taking funds out of their 401(k) plan and not being able to replace them.
The average Social Security benefit paid in 2023 is $1,693.88. Using the current year numbers, this amount will not pay the average rent of $1,794 or the average mortgage of $2,430. What about food, medical, gas, car payment, insurance, clothing, and much more?
These are the hard facts that only time can fix. As of this writing, the average person retiring at 65-70 years only has $185,858 in their retirement accounts. This may seem like a lot to many but let me show you why it is not.
Simple Calculation
A simple calculation: $185,858 x 7% annual return from invested capital = $13,000. This adds 1,084 per month to your Social Security benefit. At age 72, you must start to remove the principal each year which will reduce your monthly return each year. See the link to our FREE retirement budget at the end of this article.
Average Social Security Benefit 2023 – $1,693.88
Average rent – $1,794.00 – Average mortgage – $2,430
Borrowing from your 401(k) is robbing your 401(k)
I can go into some of the reasons why you should not borrow from your 401(k) plan e.g. loss of growth, repayment, etc., the main reason is that this fund is for a very specific purpose, to keep you out of the poor house in retirement. This can be a powerful incentive to keep the money where it is and allow it to grow. The interest you pay to yourself is not real interest it comes from income where taxes have been paid. So does the repayment.
Robbing funds from your 401(k) plan before you are 59 1/2 is a crime. No, you will not go to jail but it is a crime that you have worked so hard to save for retirement just to pull out funds, pay a penalty of 10% of the amount you remove, and then pay income taxes on it as well. Depending upon the amount your raid on the 401k could put you into a higher tax bracket.
There are a few instances where you may be eligible for penalty-free withdrawals e.g medical but you still must pay income taxes. This is called a hardship withdrawal. Try to avoid making withdrawals even in hardship if at all possible. Don’t make the mistake of paying off your credit cards with your retirement savings accounts. Unless you have changed your lifestyle, it is likely you will just run up the balance again.
My story
When I was in my early 30s, I left a great job to start my own business. I needed money to start my new business and to live on. I looked around and found that fat 401(k) plan. Well, it was not very fat but at that time it was all I could get my hands on. At that time 401(k) plans were new and hardly anyone understood them
I took out the funds and later found I they were subject to tax and penalties. There may have been a better way for me to obtain money without removing it from my fund. I worked at building it back but I was never able to replace the funds as long as I was making the maximum contribution.
Had I taken the money ten or more years later, I would have been way behind what became my retirement plan. It’s unfortunate that people in their 30s and 40s don’t fully grasp the idea of saving for retirement. All I can say is ask your future self if you did all you could to prepare.
Many people may live 20-30 years beyond retirement. That’s a long time to stretch your savings. I did not have anyone to explain what I have in this article or I would have stopped in my tracks and found a better way to solve my short-term problem. My advice stop robbing your 401(k) plan.
If you remove funds you can’t make them up
Federal law specifies a maximum that you can contribute to all retirement programs each year depending upon your age. If you take funds out (other than borrowing) you are not permitted to put them back. You lose the ability to “make up” what you have taken out. The exception is an approved loan.
For some, the temptation for robbing their 401(k) plan is almost overwhelming particularly when the alternatives during a period of need are difficult e.g. obtaining a high-interest loan.
I suggest that this article is not sufficient to deter some from avoiding the temptation to rob their 401(k) so please seek out other articles where real people have done it and tell their horror stories about not having enough to survive in retirement.
You always wanted that swimming pool and you think that it’s part of an appreciating asset so you should rob the 401(k) to pay for it. Wrong, pools add very little and in some areas zero to the value of a home.
$185,858
average 401(k) balance by age 65-70
The purpose of a 401(k) and IRA is for retirement. This is why congress created the laws that govern them. Did you know that your 401(k) is immune to court judgments? What does this mean? No court in the world can take funds from your 401(k) to satisfy a judgment.
Remember OJ? They took all he had in the civil suit but they could not touch his football 401(k). A 401(k) is one of the few qualified retirement plans. Qualified is the keyword, this is what exempts your 401(k) plan from legal actions.
Court judgments can’t take 401(k) funds
This excellent liability protection means that unless you are robbing the 401(k) plan, it will be there for you when you decide to retire. Simply ignore that you have the plan, keep depositing from your paycheck, and go on with life allowing the program to create wealth for you.
I mentioned the one circumstance where taking money (robbing) from your 401(k) was acceptable. Before I tell you what that is, you should know that there are two kinds of assets. Appreciating assets and depreciating assets.
Appreciating assets are assets that grow in value over time. Depreciating assets decline in value over time. Some examples:
Depreciating Assets:
- Car
- Boat
- Clothing
- RV
- Furniture
- Credit card debt
Appreciating Assets:
- House
- Real property of any type
- 401k (typically)
- Some art or old cars or antique furniture
When you consider investing in large purchases, consider if the thing will be worth more over time or less. If you use money from your 401(k) before retirement to purchase for example a car, your hard-earned money will start to go South the moment you sign the papers.
If you buy a house, you are investing in an appreciating asset. Here is where I explain the debacle of the last decade.
Start with the cost to rob or borrow from your 401(k) retirement funds. You are permitted by law to take out up to $50,000 of your plan assets through a loan with a maximum payback of 60 months. Interest is added to the loan. There is no withdrawal penalty for a loan.
The interest is paid into your account so these are interest-free loans. If you borrow all $50k at 5% interest for 60 months, the repayment is $943.56 per month (repayment is through payroll deduction for each paycheck).
Borrowing is permitted under certain rules
Your plan provider has specific rules for borrowing from the plan, you must have a reason for doing so. Fund managers require you to define the reason for the loan. Before I move on from the loan, if you leave your employer you may be required to repay the loan in full. If you do not, it will become classified as an early withdrawal subject to taxes and penalties.
Yes, sometimes property value drops but that is not typical over time. There are ups and downs but generally, property grows with inflation at a minimum. Back to the one thing that you could use your 401(k) for and that is property. This may seem to be a simple deduction but it’s not. Your funds in the 401(k) are liquid. That is, you can sell stocks, bonds, mutual funds, etc., and have a check issued in a week.
The money you have tied up in your house is harder to reach if you need it. This is why it is not a good thing to buy a house and be cash-strapped where you can not take care of small emergencies.
If you borrow you need years to recover
Should you decide to borrow from your 401k to make a downpayment on a house, remember you need time to rebuild that fund in the 401(k) before retirement because you can not get it from a house unless you sell it or refinance it.
If you take a loan against your 401(k), you will have to pay it back along with the mortgage payment. This can be a difficult exercise for many.
If you decide to take funds from your 401(k) plan before you are 59.5 years old the penalties and tax may reduce the distribution by 25-35%.
A Self-Directed IRA will allow you to invest in real estate
There is one other way to tap into your 401(k) to increase its value over time. If you are over 59 1/2, you can transfer some (you can transfer all but this is not recommended) to a Self-Directed IRA (SDRA) where it can be used to buy a rental property. You can not buy a primary residence through this program nor can you touch any of the income. The income goes back to the SDRA for reinvestment.
This is a very good way to diversify your 401k without permanently removing the funds. Month after month, the rental income will be put back into the fund to be reinvested. If you for example borrow $25k from your 401k through this process and earn $5,000 per year in rental income, you can repay the amount in five years.
At the end of five years, you will have paid off what you removed and you will have accumulated value in the property as well as paying down the mortgage. If you purchased a $125,000 property, you would have paid the mortgage down by $9,000 and at 3% appreciation, the property would have grown by $20,000 for a total return on investment of 29,000 or 116%. Check out this site for a 100% turn-key investment program.
The purpose of this article is not to encourage you to invest any of your 401(k) in real estate but rather to dissuade you from using your 401(k) for any purpose except to make more money. That is the purpose of the 401(k) to save for retirement and you should maximize those funds by making good choices. I hope that you understand this article is for educational purposes.
Make that employer match to 100%, its free money
If your employer matches your contributions, be sure to capture 100% of that match, it’s free money. Retirement plan participants are usually encouraged to take the match and then move funds to a ROTH IRA if one is offered by their employer. This is a good investment strategy to help you take advantage of your plan benefits.
Not taking the full employer match is another way of robbing your 401(k) plan. If you are not doing all you can to maximize your return, you are basically robbing your future self.
If you are under 59 1/2, you have a few good options but to leave the fund alone. So many Americans are unprepared for retirement. Many have raided their 401k in their 40s and 50s without fully understanding the time value of compounding.
When people “finally get it” there are few years left
When they finally get it, the number of years remaining to accumulate wealth is limited. Investment advisors usually recommend the use of retirement savings plans for anyone who has access to them.
The average person does not understand that the employer pays service providers a large fee to establish and maintain retirement plans. Large employers and even small business owners want their employees to take advantage of the plans.
Many years ago when these plans were first started, you could not remove the employer contribution unless you were with the company for several years. All of that is gone now. If you leave your employer, you are entitled to transfer your 401(k) to another company 401(k) or to a qualified traditional IRA.
You can move your 401(k) to another employer or IRA
This is where some people are tempted to take the money and run. Remember, robbing your 401(k) plan is bad on so many levels. You must work with a new provider either your new employer or a brokerage such as the Vanguard Group, Fidelity Investments or Charles Schwab, and others.
The new plan will receive the funds directly from the old plan. You are not permitted to accept the funds even to take them to the new plan. If your new employer does not have a plan, you can open a traditional IRA and make your own choices from common stocks to mutual funds and anything in between.
The new plan administrator will offer financial advice on how to make your initial investment. Ask them about a low-fee plan as high fees can eat up your investments. Financial planners help people who are unfamiliar with how to invest. Before you select a financial planner be sure that they are a fiduciary which means they are paid you not on commission from others.
Say no to using 401(k) for kids’ college
When college comes up, tell the kids that you will not raid your 401(k), there has to be a better way for them to go to college or technical school without going into debt (and there are many ways). The worst thing people do is rob their plan to pay for their kid’s college.
There are so many horror stories about how parents ruined their retirements. Often those degrees do not produce the income that would justify the investment. This may leave your children without the means to repay you.
I can not leave this section without at least mentioning that to retire well, you need a plan. To create this plan you need a budget. Click on the button below and start creating your retirement budget now.
Check out this article: Retirement in five years: Don’t fail to plan now and this one Student Loans and Retirement there are many more at our blog site: http://Retirecoast.com
There are other helpful articles in my blog about finance and retirement. Please
