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Taking money out of your retirement plan prematurely might provide short-term relief, but it sacrifices substantial long-term growth.
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Borrowing or withdrawing from your 401(k) leads to missed potential market returns.
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A withdrawal or loan reduces your investment base, forfeiting decades of compounding growth.
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Recovery takes time—rebuilding your retirement nest egg after a withdrawal is more difficult than it seems.
The rising cost of living is one of the biggest stressors for three out of four employees, according to recent data from Fidelity Investments. For some, this can lead to a withdrawal or a loan from their 401(k). While this can offer temporary relief, it often comes at a steep long-term cost. Even a modest early withdrawal can potentially erode your nest egg by tens of thousands of dollars over time due to taxes, penalties, and lost compounding growth.
Fidelity Investments also found that employees without emergency funds are about twice as likely to borrow or make early withdrawals from their retirement plans.
The number of people who take hardship withdrawals has risen to about 5% of participants as of 2024, compared to about 2% in 2018. 401(k) loans have also been increasing since 2021.
As more workers dip into retirement funds to cover medical bills, housing costs, and other emergencies, the absence of savings threatens both their long-term financial security and their ability to retire on time.
Understanding how hardship withdrawals and loans differ is key. A 401(k) withdrawal is taking out money directly from your account. These withdrawals are taxed as ordinary income. And if you’re under 59½, they’re also typically subject to a 10% early withdrawal penalty (unless you qualify for an IRS exception).
A 401(k) loan, on the other hand, allows you to borrow against your savings. You can borrow up to either:
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50% of your vested amount or $10,000, whichever is greater
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$50,000, whichever is less
You’ll typically have to repay the balance, plus interest, within five years, though there are exceptions like using the funds to purchase a home. Unlike a 401(k) withdrawal, however, you don’t have to pay taxes or penalties when you take a 401(k) loan. Interest payments go back into your account, not to a lender, and the process doesn’t affect your credit score even if you miss a payment.
However, there’s a significant trade-off with both of these options. While that money is out of the market, you lose potential returns. In addition, if you leave or lose your job, repayment of a 401(k) loan may be due quite soon (such as by the next tax day). If you can’t pay, the balance is treated as a taxable withdrawal, which comes with a 10% penalty on the loan balance if you’re under 59½.