February 24, 2026

401(k) Loans: The Hidden Costs of “Borrowing From Yourself.”

Many people are attracted to the idea of "borrowing from themselves" with a 401(k) loan. After all, it sounds reassuring and simple. But this phrase can be misleading—there are hidden costs and real risks involved. It's important to see past the surface, understand what you might be giving up, and consider job changes and repayment challenges before dipping into your retirement savings.

How 401(k) Loans Work

Most 401(k) plans allow participants to borrow a portion of their vested balance, subject to IRS limits. In general, loans are capped at the lesser of 50% of your vested account balance or $ 50,000, with some technical adjustments if you have had other loans in the prior year. Repayments, including interest, are usually made through payroll deductions, and most loans must be repaid within five years unless the money is used to buy a primary residence.

The interest you pay usually goes back into your own account, which is why people often say they're "paying themselves back." But that doesn't mean the loan is free. You're still taking money out of long-term investments and tying up your future income to pay back the debt.

Opportunity Cost: What Your Money Could Have Been Doing

When you take a loan from your 401(k), the borrowed money is pulled out of your investments and set aside as a loan balance—it stops working for you in the market. That means you miss out on any growth or compounding those funds could have earned while the loan is unpaid.

Missing even a few good years in the market can make a big dent in your future retirement balance. Studies show that while most people do pay back their loans, the real damage often happens to those who borrow frequently or keep loans for a long time. Plus, some borrowers cut back or stop making new contributions to repay the loan—sometimes missing out on employer matching contributions and slowing their savings growth even more.

Job‑Change Risk: When Employment Shifts Trigger Default

One of the biggest risks with a 401(k) loan comes if you leave your job—whether by choice or not—before you've finished paying it back. Many plans require you to repay the entire outstanding loan quickly (often by the time your federal tax return is due for that year). If you can't, the leftover balance is treated as a distribution.

Research finds that most people who leave their job with an unpaid 401(k) loan end up defaulting on it. When that happens, the unpaid balance gets counted as taxable income—and if you’re under 59½, you might also owe a 10% early withdrawal penalty. This double hit can shrink your retirement savings and leave you facing a surprise tax bill, right when your finances may already feel uncertain.

Repayment Pitfalls and Cash‑Flow Strain

Even if you stay with your employer, paying back a 401(k) loan can turn out to be tougher than it first seems.

Common pitfalls include:

Tight cash flow: Since loan payments are taken out of your paycheck, you’ll see less take-home pay. That can make it harder to cover regular expenses or deal with unexpected bills.
Missed payments: If you miss scheduled payments beyond the permitted “cure” period, the loan can be deemed in default and treated as a taxable distribution.
Leaves of absence: Some plans may allow temporary suspensions of repayments during certain leaves, but payments often must increase later to stay within the maximum repayment term, which can surprise borrowers.

Plus, because you’re repaying the loan with after-tax dollars—and future withdrawals will also be taxed—some people call this “double taxation.” How much this matters depends on your personal tax situation.

When a 401(k) Loan Might Be Considered

Your plan might allow 401(k) loans, and sometimes they look better than high-interest credit cards or other debt. Still, it’s important to remember: You’re borrowing from your retirement fund, and your savings act as collateral for the loan.

If you are evaluating whether to take a 401(k) loan, it can be helpful to compare:

Interest rates and fees versus other available credit options.
The impact on your retirement projections if contributions or growth are reduced while the loan is outstanding.
Your job stability and the likelihood of needing to change employers before the loan is fully repaid.

It can be worth talking to a financial or tax professional about these factors, so you can see how a 401(k) loan would fit into your overall financial plan and the specific rules of your employer’s program.

Practical Questions to Ask Before Borrowing

Before taking a 401(k) loan, you may want to ask:

What is the total cost (interest, fees, and lost potential growth) over the life of the loan?
How secure is my current employment, and what happens to the loan if I change jobs?
Will I be able to keep contributing enough to receive any available employer match while repaying the loan?
Are there other sources of funds that might preserve my retirement savings, such as an emergency reserve, payment plan, or lower‑cost loan outside the 401(k)?

Taking a little time to weigh the short-term benefits and long-term trade-offs can help you decide if borrowing from your 401(k) really fits your retirement goals and overall financial plan.

Disclosure

This material is for informational and educational purposes only and is not intended as individualized investment, tax, or legal advice. It does not constitute a recommendation to take, avoid, or refinance a 401(k) loan or to engage in any specific rollover or distribution strategy. All investments and loans involve risk, including the potential loss of retirement savings. Tax consequences depend on your individual circumstances and may change with future legislation or guidance. Before making any decision about borrowing from a retirement plan, you should review your plan documents carefully and consult with a qualified financial or tax professional.

Sources

‍

401(k) Loans: The Hidden Costs of “Borrowing From Yourself.”

Recent Articles

Let's talk about your future.