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Personal loans from retirement accounts

[Oct 15, 2010.]

 

Many parents who find it tough to come up with enough funds to help their kids attend college end up turning to their retirement accounts. Generally, it isn't that difficult to get a personal loan from a retirement account, but doing so is not the best choice for paying education costs. Here are some of the pros and cons for getting a loan from a retirement account.

Pro: the loan application process is easy

Generally, taking a loan for college expenses from a retirement account requires less red tape than going to a bank or other type of lender. Getting a personal loan from a retirement account does not require a credit check. Also, you're borrowing money from yourself, so when you pay it back with interest it all goes back into your account.

Con: you lose out on earnings

While borrowing a loan from a retirement account is convenient, missing out on earnings for retirement isn't. Anytime you take money out of a retirement account you're not earning interest on it. That means you may miss out on any gains in your investments. You'll have less time to make up those contributions, and could even be at risk of having to postpone retirement. It's a good idea to avoid touching retirement funds unless it's an extreme emergency.

Con: you may have to repay early

Another risk of borrowing from a 401(k) is having the repay the full amount of the 401(k) loan if you leave your job. Whether you quit, get fired or are laid off, you'll have to come up with the money within a specific time or pay a penalty and taxes. Roth and traditional IRAs can be used for college expenses without paying a penalty. But you'll pay taxes on money withdrawn from a traditional IRA.

Other sources for loans

Look for other alternatives for borrowing money. Exhaust all options for obtaining federal student loans, grants and scholarships. There are also loans for parents and private student loans. But if you have time to plan for college costs, open a 529 savings plan and sock away as much money as you can. However, do not save for college at the expense of funding your retirement. Remember, your kids can always work their way through college and take out student loans, but there are no personal loan programs or grants to pay for retirement.

 

About Author:

Francine L. Huff is a freelance journalist and the author of The 25-Day Money Makeover for Women. She has appeared on a variety of TV and radio shows.

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