Jim (a regular reader of LifeAndMyFinances) and his wife (Mrs. Jim) absolutely hate their home mortgage. If they had the cash to pay off their bank right now, they would absolutely do it without hesitation. Unfortunately, they do not have $47,000 in cash to do this right now (no big surprise here – that’s quite a lot of money!), so they are considering taking out a loan from their 401k to pay off that nuisance of a mortgage. What do you think, should they do it? Before you answer too quickly, let’s dig into some details as well as the positives and the negatives of taking out a 401k loan.
Jim and Mrs. Jim are in their mid-50’s with about 10 more years of work ahead of them before they retire. They have a 401a account (which is very similar to a 401k) that’s beefed up with $950,000, but still have $47,000 of debt to pay on their mortgage. Today, they are considering taking out a loan against their 401k for the following reasons:
- Their house will be secure and fully paid for
- The 401k loan wouldn’t hurt their investments too much
- They are convinced that the stock market is going to crash again
I commend Jim and Mrs. Jim for even thinking about what might be wise for them in the present and in their future. Many people just go through life accumulating stuff and never even think twice about how it could impact them or their future retirement. I understand the fears and concerns of a house mortgage and the state of the economy, but are these fears leading Jim and Mrs. Jim to a positive response or a crippling reaction?
The Pros and Cons of Paying off the Mortgage with Your 401k
Many people consider withdrawing money from their 401k and just elect to pay the penalty. This is quite obviously a bad idea. But what about borrowing money from your 401k? Is this a wise idea for paying off debts and putting yourself into a better financial position? Let’s take a look!
- The house is paid off completely – no more house payments!
- Save yourself some interest payments to the bank
- Borrowing from the 401k is better than taking out another loan to “pay off the mortgage”
- By borrowing from yourself, you are essentially paying yourself interest and not the bank
- If the market goes down during the loan, taking the loan out will save the owner from a loss on that money
- If you switch jobs or lose your current job, your loan is due in full within 60 days
- If the market goes up after you pull your money out, you will miss out on those earnings
- The interest paid back to yourself will be taxed twice – once to put it back into your account, and again when you withdraw the funds during retirement (which may equate to more than the mortgage interest payments)
- Instead of monthly mortgage payments, you will be making monthly payments into your 401k account, so there is still a payment to be made
- Some funds may not allow you to contribute to your 401k while the loan is active, which will certainly hinder an otherwise growing retirement fund
- If you miss the payments for 90 days, the money will be withdrawn from your account, which means that it will be taxed and penalized for early withdrawal
The Decision – Asking for the Readers’ Advice
When it comes down to it, Jim and Mrs. Jim are sick and tired of the market rising and falling, and they just wish that their mortgage was completely paid off. While it is difficult to put a quantitative measure on emotion, I totally get where they are coming from! After all, I am currently in a fierce battle with my mortgage and am trying to pay it off as soon as possible. The feeling that I will get once that mortgage is paid off will be priceless, and I absolutely can’t wait to accomplish it!
The big looming question at this point however, is whether or not Jim and Mrs. Jim should borrow money against their 401k to pay off that remaining mortgage balance of $47,000.
So what do you think? Should they use the 401k loan to pay off the mortgage? Or are there some other options that you can think of? Please help Jim and Mrs. Jim by leaving your comments below!
My name is Derek, and I have my Bachelors Degree in Finance from Grand Valley State University. After graduation, I was not able to find a job that fully utilized my degree, but I still had a passion for Finance! So, I decided to focus my passion in the stock market. I studied Cash Flows, Balance Sheets, and Income Statements, put some money into the market and saw a good return on my investment. As satisfying as this was, I still felt that something was missing. I have a passion for Finance, but I also have a passion for people. If you have a willingness to learn, I will continue to teach.