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401k Loan versus Early Withdrawal

loaned motorcycleWhen you have a 401k and you need some money from the account, you have a couple of options. Depending upon your 401k plan’s options, you may be able to take a 401k loan. With some plans you also have the option to take an early, in-service withdrawal from the plan.

These two options have very different outcomes for you, in terms of taxes and possible penalties. Let’s explore the differences.

401k Loan

If your plan allows for a 401k loan, this can be a good option to get access to the money, for virtually any purpose. Being a loan, there is no tax impact when you take out a 401k loan. Plus you can use the money for any purpose that you need, at any age.

As a loan, it must be paid back over the a five-year period (at most). You’ll pay interest on the loan, but since it is from your own account, you’re paying interest to yourself.

There is a limit of $50,000 for a 401k loan, or 50% of your account balance if that amount is less.

If you leave the employer (retirement or otherwise) and there is still a balance outstanding on your 401k loan, the outstanding balance will be considered a withdrawal from the 401k account – which is taxable as ordinary income and possibly subject to the 10% early withdrawal penalty (unless you meet one of the exceptions, see below).

If you are not currently employed by the sponsoring employer, a 401k loan is generally not available.

401k Withdrawal

If you’re still employed by the company and want to take a withdrawal from your 401k, the 401k plan must have an option to allow for in-service withdrawals. Often there are restrictions on the availability of an in-service withdrawal. For many plans it’s necessary to be above a certain age (such as 59½ years of age), or that a particular requirement is met, such as hardship by the employee, defined by the plan administrator.

In addition, if you’re taking a withdrawal from the plan instead of a 401k loan, the money withdrawn from the 401k plan will be taxable to you as ordinary income. Plus if you’re under age 59½ your withdrawal could be subject to an early withdrawal penalty unless you meet one of the exceptions. See the article 16 Ways to Withdraw Money From Your 401k Without Penalty to see the exceptions to the 10% penalty.

The good news is that you won’t have to pay the money back to the plan when you make a withdrawal as you would with a 401k loan.


  1. Tim says:

    I will be 591/2 in January. What steps do I need to take to withdraw a small amount from my 401K.

    1. jblankenship says:

      Contact your plan administrator and ask them what you need to do. Its different for every plan.

  2. Jill says:

    My company recently had to cease participation in our existing 401k plan and is searching for a new provider. They notified us that all deductions will stop and this is considered a distributable event. If I decide to take out a portion of my 401 k while it’s in limbo, what penalties should I expect to pay?

    1. jblankenship says:

      If you take the money in cash (that is, you are not rolling over into an IRA) then you’ll have a 10% penalty on the distribution if you’re under age 59 1/2. You’ll also owe income tax on the distribution – the amount distributed will be added to your other ordinary income for the year and taxed (in addition to the 10% penalty).

  3. R. Thomas says:

    I am interested in building a small retirement cottage in the Caribbean, is a loan more beneficial or a withdrawal?

    1. jblankenship says:

      Without knowing more about your situation I can’t answer that question. It depends on whether you are still working, what your 401k investments are returning for you, what your income situation is like (to be able to handle loan payments), what the rate of the loan might be, etc..

  4. Quincy says:

    I have credit cards bills and need to pay off. Do I take a loan or withdraw ?

    1. jblankenship says:

      Knowing nothing about your situation, I can’t tell you what will work best for you. What I’ve found in general is that borrowing money to pay off credit card debt is a losing proposition. Your best bet is to earn some more money or reduce your other expenses, and use the extra money to pay off the credit cards more quickly.

      It’s not the answer most folks want to hear, but it is a method that works.

  5. Dawn Dresch says:

    I would like to get my mortgage paid off. I owe 200,000 how do I take a loan out of my 401k without a penalty?

    1. jblankenship says:

      You’ll need to talk to your 401k administrator to find out how to take a loan from your account. Keep in mind that you’re limited to the lesser of $50,000 or 50% of your account balance on a loan.

      1. J says:

        Generally speaking is that a good idea? The idea of taking a distribution in order to pay off a mortgage or at the very least reduce the balance, and with it, the higher interest payments on principal especially considering the current CARES act provisions

        1. jblankenship says:

          This post was written 4 years before CARES was passed. The concepts are still valuable, just the context is different for the current year.

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