Leveraging Employer 401k Loan

Tax, SDIRAs & Cost Segregation
13yFollow

Leveraging Employer 401k Loan

Tony Tran
Engineer · Long Beach, CA · Member since 2013 · 59 posts · 13 votes

Assuming the employer matches 100% of the amount contributed. Knowing that a traditional tax-deferred 401k allows me to borrow up to half of investment dollars (that inclusive of company match funds), or up to $50k, as a loan. I can just “borrow” all the initially invested pre-tax dollars at a very low interest rate over the next 5 years and use it to purchase real property now.

The benefits are:
- Low interest rate (fixed).
- Your “actual” money earn before tax can be used. Means more money to invest with and compound long-term.
- Buy property now rather than later.
- All loan payments including interest goes straight back to the 401k. Pretty much paying yourself back.

The downsides are:
- Loan payments must be paid with “after tax” dollars.
- There is usually a trustee processing fee. Mine is $50.
- Must have money to pay leveraged 401k loan back.
- If you terminate with your employer, the trustee may ask for the whole loan to be paid back right away.

Just a reminder, this is not a legal or tax advice, or of such.

Any thoughts? Risky?

0Reply
97 views

Most Popular Reply

Bryan H.
Investor · Willow Spring, NC · Member since 2013 · 788 posts · 285 votes
13y

I took a loan out against my 401k for a flip. The duration was less than 12 months and the money was back in the account. I felt my flip would (and it did) get me a much better ROI than leaving it in the account.

A couple of things to think about. You DONT need to pay it back if you leave your employer. If you don't, its considered a distribution and you get hit with the penalties and taxes. That may suck, but you don't need to pay it back.

In regards to returning the money after taxes. If I lowered my contribution to only what my employer matches and waited until I saved up (after tax dollars) to do the flip, I would have missed out on an opportunity. It was worth it to me to take the fast cash, use it and return it when I was done. Now I have paid back my 401k and I have an influx of dollars to use on future projects that I wouldn't have if I didn't borrow against it.

So, depending on your situation, it may be a good idea. I wouldn't use it for long term projects, but in the short term it worked well for me.

2Reply
See this reply in the discussion

36 Replies

Jump to latestLatest
  • Jon Holdman
    Rental Property Investor · Mercer Island, WA · Member since 2008 · 22k+ posts · 14k+ votes
    13y

    Another downside is the term is usually limited to five years. That makes the payment high vs. even a 15 year mortgage.

    IMHO the "immediate payback if you terminate your employment" is a serious limitation. If you get laid off, not only are you out of a job but you have to pay back this loan.

    0Reply
  • Tony Tran
    OP
    Engineer · Long Beach, CA · Member since 2013 · 59 posts · 13 votes
    13y

    Thanks Jon Holdman

    0Reply
  • Jeff Barnes
    Real Estate Investor · Bonney Lake, WA · Member since 2012 · 54 posts · 14 votes
    13y

    Personally, I wouldn't want such a loan due to the short time frame, inflexibility of the rules, and the fact that the IRS is the entity holding you to the fire- not one I'd want to cross personally.

    One option worth looking into is setting up a self-directed 401k, and then convincing your current employer that you want to be able to rollover your 401k to another "custodian" (i.e. you). Most employers won't understand this, so it can be an uphill battle.

    Another option is to setup a Self-Directed Roth 401k, and then transfer your funds there. The downside is that you would pay the taxes for transferring out of the traditional 401k. The upside is that you can now invest after-tax dollars into your SD Roth 401k and it will grow tax free.

    0Reply
  • Dave Toelkes
    Investor · Pawleys Island, SC · Member since 2008 · 1k+ posts · 837 votes
    13y

    I think it is a bad idea.

    Your employer is giving you a 100% return on your investment. Why dilute that yield with a loan and interest you have to pay back with after tax dollars, only to have the amount you paid back in interest TAXED AGAIN as ordinary income when you take a distribution?

    Now, if you are contributing more than the employer matches, stop doing that. Only contribute up to the amount of the employer match. Then put anything else you want to contribute into your own Roth IRA.

    1Reply
  • Tony Tran
    OP
    Engineer · Long Beach, CA · Member since 2013 · 59 posts · 13 votes
    13y

    Jeff Barnes, I agree. A Solo 401k would be the ideal setup, but since I am still with my current employer. I cannot rollover the 401k to another custodian. I think the best option for me would be similar to what Dave T mentioned.

    To maximize my current retirement capabilities, I would need to create both an SDIRA and a Solo 401k. After the employer match, everything goes into the SDIRA and Solo 401k.

    Thanks guys for the insight. It has helped alot.

    0Reply
  • Bryan H.
    Investor · Willow Spring, NC · Member since 2013 · 788 posts · 285 votes
    13y

    I took a loan out against my 401k for a flip. The duration was less than 12 months and the money was back in the account. I felt my flip would (and it did) get me a much better ROI than leaving it in the account.

    A couple of things to think about. You DONT need to pay it back if you leave your employer. If you don't, its considered a distribution and you get hit with the penalties and taxes. That may suck, but you don't need to pay it back.

    In regards to returning the money after taxes. If I lowered my contribution to only what my employer matches and waited until I saved up (after tax dollars) to do the flip, I would have missed out on an opportunity. It was worth it to me to take the fast cash, use it and return it when I was done. Now I have paid back my 401k and I have an influx of dollars to use on future projects that I wouldn't have if I didn't borrow against it.

    So, depending on your situation, it may be a good idea. I wouldn't use it for long term projects, but in the short term it worked well for me.

    2Reply
  • Tony Tran
    OP
    Engineer · Long Beach, CA · Member since 2013 · 59 posts · 13 votes
    13y

    Bryan H., good point! I am planning on doing something similar. The return outside of the employer 401k is much higher.

    0Reply
  • Dawn AnastasiPro Member
    Rental Property Investor · Milwaukee, WI · Member since 2013 · 6k+ posts · 4k+ votes
    13y

    Another thought is that you can use it for quick cash to get a property NOW that is a deal, and then refinance it later with other funds. When there is a good deal, if you don't snatch it up, someone else will.

    Podcast Guest on Show #29
    0Reply
  • Tony Tran
    Arcadia, CA · Member since 2012 · 5 posts · 0 votes
    13y

    I am planning on doing so, Dawn A. Using it as quick cash is a great idea!

    I would prefer to have the properties detached from any retirement accounts. This gives me the flexibility to do as I please with the properties without concerns on all gains going back into the retirement accounts. I am fairly young and waiting another 35 years to cash out on retirement sounds pretty ridiculous to me.

    The only concerns are paying back a low-rate loan and paying it back using after-tax dollars. My employer allows for monthly payment (even after discontinuing work with them), which is a BIG plus. With after-tax dollars, the money is going to be taxed coming in or going out...there is no way around that.

    0Reply
  • Dave Toelkes
    Investor · Pawleys Island, SC · Member since 2008 · 1k+ posts · 837 votes
    13y
    Originally posted by Tony Tran:

    To maximize my current retirement capabilities, I would need to create both an SDIRA and a Solo 401k. After the employer match, everything goes into the SDIRA and Solo 401k.

    A SD Roth IRA would be a better choice than a SDIRA. Both have the same prohibited transaction rules, but with the Roth, you can withdraw your contributions any time without paying the early withdrawal penalty and the Roth earnings are tax free. The SDIRA will still tax your contributions AND earnings when you begin withdrawals.

    0Reply
  • Scott W.
    Real Estate Investor · chicago, IL · Member since 2012 · 1k+ posts · 231 votes
    13y

    if you can exceed the returns of the 401k, why not?

    0Reply
  • Tony Tran
    OP
    Engineer · Long Beach, CA · Member since 2013 · 59 posts · 13 votes
    13y
    Originally posted by Dave T:
    Originally posted by Tony Tran:

    To maximize my current retirement capabilities, I would need to create both an SDIRA and a Solo 401k. After the employer match, everything goes into the SDIRA and Solo 401k.

    A SD Roth IRA would be a better choice than a SDIRA. Both have the same prohibited transaction rules, but with the Roth, you can withdraw your contributions any time without paying the early withdrawal penalty and the Roth earnings are tax free. The SDIRA will still tax your contributions AND earnings when you begin withdrawals.

    Roth IRA allows for withdrawal of contributions at the 5 year mark. I am currently looking into pre-tax contributions because it allows me to lower my AGI.

    0Reply
  • Tony Tran
    OP
    Engineer · Long Beach, CA · Member since 2013 · 59 posts · 13 votes
    13y
    Originally posted by Scott W.:
    if you can exceed the returns of the 401k, why not?

    Thanks @Scott W.

    0Reply
  • Abdul R.
    Real Estate Investor · Piscataway, NJ · Member since 2012 · 167 posts · 19 votes
    13y

    Is SD Roth IRA same as Solo 401k, pardon my silly question? What is the difference?

    0Reply
  • Jon Klaus
    Developer · Garland, TX · Member since 2008 · 8k+ posts · 4k+ votes
    13y
    Originally posted by Abdul R.:
    Is SD Roth IRA same as Solo 401k, pardon my silly question? What is the difference?

    Different. SD Roth IRA is made up of post tax contributions. Solo 401K is made up of pretax contributions and is sponsored by your own small business.

    1Reply
  • Abdul R.
    Real Estate Investor · Piscataway, NJ · Member since 2012 · 167 posts · 19 votes
    13y

    Jon Klaus Thanks for that clarification.

    I do have an LLC entity setup, however it is not generating any income yet (perhaps in the future when my wholesaling/rehabbing business takes off). Do you know if I can use this business to set up a Solo 401k?

    0Reply
  • Steven Hamilton IIPro Member
    Accountant, Enrolled Agent · Grayslake, IL · Member since 2011 · 5k+ posts · 2k+ votes
    13y

    Yes, you can use that business to set up a solo 401k. I highly recommend it.

    If you want to use the funds to invest:

    You may want to consider utilizing the ROBS method as I've mentioned before. It allows you to tap into your 401k without withdrawing it. You can use it to start a business even in real estate investment.

    -Steven

    [email protected]224-381-2660
    0Reply
  • Dawn AnastasiPro Member
    Rental Property Investor · Milwaukee, WI · Member since 2013 · 6k+ posts · 4k+ votes
    13y

    401(k)s and IRAs really confuse me. I don't know why, but I can never seem to get a grasp on them. I have some questions.

    1. If I have a Roth 401(k) currently with my employer, can I also set up a Solo 401(k) for my LLC and have both at the same time?

    2. If so can I transfer a portion of the money out of my Roth 401(k) into the Solo 401(k)?

    3. Can I setup a Solo 401(k) at $100,000 and take a loan from it for $50,000 since that is 50% of the balance?

    Podcast Guest on Show #29
    0Reply
  • Tony Tran
    OP
    Engineer · Long Beach, CA · Member since 2013 · 59 posts · 13 votes
    13y
    Originally posted by Dawn A.:
    401(k)s and IRAs really confuse me. I don't know why, but I can never seem to get a grasp on them. I have some questions.

    1. If I have a Roth 401(k) currently with my employer, can I also set up a Solo 401(k) for my LLC and have both at the same time?

    2. If so can I transfer a portion of the money out of my Roth 401(k) into the Solo 401(k)?

    3. Can I setup a Solo 401(k) at $100,000 and take a loan from it for $50,000 since that is 50% of the balance?

    1. It really depends on your employer if they offer Roth and/or Traditional 401(k). My employer does not offer Roth 401(k). You can set up a Solo 401(k) for your LLC, and have both yours and your employer retirement account at the same time.

    2. No, you cannot transfer funds from one account to the next without custodial approval.

    3. There is a limit on how much you can contribute yearly. It should be stated in the IRS guidelines. The maximum you can take out as a loan is up to $50k.

    Hope that helps.

    0Reply
  • Dawn AnastasiPro Member
    Rental Property Investor · Milwaukee, WI · Member since 2013 · 6k+ posts · 4k+ votes
    13y

    Yes that helps. I would prefer to take out a loan when I am controlling the 401(k), not my employer. I tried to take out a loan from my 401(k) previously, but my employer seemed like they didn't want to do that and then never submitted the paperwork. So at that time I just gave up and didn't take the loan.

    Podcast Guest on Show #29
    1Reply
  • David Beard
    Investor · Cincinnati, OH · Member since 2010 · 1k+ posts · 928 votes
    13y
    Originally posted by Dawn A.:
    401(k)s and IRAs really confuse me. I don't know why, but I can never seem to get a grasp on them. I have some questions.

    1. If I have a Roth 401(k) currently with my employer, can I also set up a Solo 401(k) for my LLC and have both at the same time?

    2. If so can I transfer a portion of the money out of my Roth 401(k) into the Solo 401(k)?

    3. Can I setup a Solo 401(k) at $100,000 and take a loan from it for $50,000 since that is 50% of the balance?

    1. Just remember that a solo 401K needs to be sponsored by an active business that you have, reported on Sch. C or equivalent. Rental property is not an active business, it is investment income. The active business can be about anything, however, even selling trinkets on Ebay, so it's a low hurdle. I would suggest you have some actual revenue from the business and show a net profit, or it might be considered a "hobby". So having an LLC doesn't mean anything, per say, you need the business, which could even be a sole proprietorship.

    2. Virtually all employers prohibit transfers out of their plan while you are working there. If you leave, you can do a rollover from your company Roth 401k to a Solo Roth 401k.

    3. Yes, you can certainly do that. Of course, to quickly get $100k into the Solo 401k, it'll require a rollover from other accounts, which could be 401k or IRA accounts.

    And many employer 401k plans will not require the loan to be repaid at temination of employment, you'll just continue making payments to the plan sponsor as you did before (just not through payroll deduction).

    0Reply
  • Dawn AnastasiPro Member
    Rental Property Investor · Milwaukee, WI · Member since 2013 · 6k+ posts · 4k+ votes
    13y

    David Beard - Can the "active business" be note holding or property management?

    Podcast Guest on Show #29
    0Reply
  • David Beard
    Investor · Cincinnati, OH · Member since 2010 · 1k+ posts · 928 votes
    13y

    Dawn A. - probably not note holding, this is just investment income on your Sch. B, correct?

    It needs to be something where you are reporting net income on Sch. C or equivalent partnership or corporate return. Basically if it's not subject to self-employment tax, then it's not an active business. Managing properties for others is an active business, generally not managing your own properties.

    This is not an area that I would try to circumvent, as the penalty is large (having your entire plan "distributed"). For a real estate investor, doing some wholesaling, fix-and-flip, managing a few props for others, or getting your agent's license are obvious areas where a RE business exists.

    0Reply
  • Abdul R.
    Real Estate Investor · Piscataway, NJ · Member since 2012 · 167 posts · 19 votes
    13y

    Steven Hamilton II Thanks. I will look into Solo 401k now. I will roll over and consolidate my old 401ks into this.

    Can you elaborate or point me to the right thread on ROBS?

    Tony Tran Thanks as well, was confusing to me too, learnt something.

    0Reply
  • Thomas Williamson
    Investor · atlanta , GA · Member since 2012 · 287 posts · 148 votes
    13y

    My wife and I set up the 401K plan (solo 401k) in February. She was able to leave her job because of our cash flow. I didn't want to simply withdraw the money and lose much of it to taxes and penalties, so we set up a corporation, established the 401K plan, and the account was funded. We used the proceeds to pay for another rental property that cash flows 500.00 a month after all expenses.

    We chose this method over the self directed IRA, because I wanted to have access to the cash flow now. You can't do that with a self directed IRA. You must be very careful doing this.

    I used a company called Guidant Financial. I know there are a few more out there that do the same thing, but I liked what I saw with them. They did exactly what they said they would do every step of the way, and provided an excellent attorney for us.

    Again, you have to be very careful with this setup. The cash flow goes back to the business bank account, and my wife is paid as an employee of the company, thus the funds are pulled back using a paycheck to my wife. It seems like a lot at first, but once you get it up and going, it's not a big deal.

    The cash flow we will receive from that property we bought, will pay out over 108,000 by the time my wife is 59 1/2. That's when she would have been able to withdraw the money from the 401k. Not to mention appreciation, tax benefits, etc, etc. We are now pulling money out of that house (putting it back into the business account) and on our way to purchasing more and more properties. Real estate kills 401ks all day long. Good luck.

    0Reply
Join the conversationCreate a free account to reply, vote on answers and follow this thread.
Log InJoin for Free