Participants should think twice about taking a loan from their 401(k) plans, according to a column by David McPherson on abcnews.com. With the current condition of the economy, many people are turning to 401(k) loans as a place for much needed money. While taking a loan is an option in many participants’ retirement plans, the article cites several things to consider:

•    Loss of compounding – If a participant withdraws money from his or her 401(k), that money is not earning interest. The money withdrawn and the interest it would have earned no longer continue to grow. This is called compounding interest. While the participant does pay interest on the loan, it is often not enough to beat the rate of return of the stock market over the long term.
•    Hefty penalties for defaults on the loan - While most people have every intention of paying their 401(k) back, unforeseen circumstances can arise. If the participant loses his/her job, that person must repay the loan immediately or he/she will be subject to the 10 percent early withdrawal penalty and federal income tax.
•    After-tax payments – When the original contributions to the 401(k) were made, they were done so on a tax-deferred basis. However, when a participant makes payments on a 401(k) loan, the payments are made on an after-tax basis. In addition, upon retirement, the participant is taxed on the earnings when making a withdrawal, meaning that person has paid taxes twice.
•    Lower contributions – Those with a loan may not be able to contribute as much to their 401(k) plan, as they now have the additional burden of the loan repayment. Even if they do contribute the same amount, they are also less likely to increase their contribution.

While 401(k) loans do have their place in emergency situations, participants should be cautioned to use them as a last resort. NADART has several calculators to help determine what effect a withdrawal would have on a participant’s account. In addition, NADART offers a wide range of tools and plan features designed to help you and your employees save more for the future. If you are interested in learning more about NADART’s retirement plan services, please contact (800) 462-3278, ext. 7161, or e-mail nadart401k@nada.org.