If you are looking into 401(k) loan basics, then there are certain aspects that you should know about. It is very common for many people to borrow a loan from their 401(k) retirement plan. This way, they can meet any critical short-term financial needs such as medical emergencies.
There are many important things that your financial advisor would have probably told you about a 401(k) loan. This could include information on how the loan is calculated, how the repayment amount is cut from your paycheck, and what documents are required while making an application. Through some more frequently asked questions, we shall discuss the repercussions of defaulting on a 401(k) loan and also look at some other 401(k) loan basics that are good to know.
Why should I borrow from my 401(k) plan?
You might wonder why you should consider borrowing from a 401(k) plan. Here are the possible reasons that can answer that query.
- Requesting the loan is easy and can usually be completed online in a quick process.
- The application for a 401(k) loan does not impact the borrower’s credit score.
- Although the maximum tenure to repay the loan is five years, you can choose to prepay the loan without having to incur any extra prepayment charges.
- The fees are quite low and usually include just an administration or an origination fee.
In case of termination of employment, by when should the outstanding be paid?
You should stay employed till the time you are repaying your loan and do not lose your job. Yet, we often cannot control these things. In case your employment ends, you will have to pay the remaining balance within 60 days of the termination date. If you are unable to repay within this time frame your loan will default.
What happens if I default on a 401(k) loan repayment?
To begin with, if you default on a 401(k) loan repayment, you may suffer adverse tax consequences. In normal cases, when a person makes prompt and regular repayments, the 401(k) loan is exempted from these taxes. But in case of a default, the 401(k) loan becomes taxable. In this case, the defaulter will get a Form 1099 which will reflect the defaulted loan balance and the defaulter will have to declare the 401(k) as income.
Will a default on my 401(k) loan repayment impact my credit score?
The answer is a clear no. This is one of the most crucial 401(k) loan basics that you should be aware of. With a 401(k) loan you have borrowed money from yourself and hence do not get called out by the credit reporting agencies for any default in payment. Though this is good news, remember that defaulting has other penalties as mentioned in the question above, so make your payments on time to avoid these negative consequences.