Can I get out of a 401K loan?

Question

I have a loan agianst my 401K. I am having financial difficulties and would like to know if I could pay the penalties on what I owe, and not have to repay the balance of the loan.

Answer 1

If your 401(k) plan allows loans (most do), you can borrow up to 50% of your vested account balance or $50,000, whichever is less. You usually have a maximum of five years to repay the loan, unless you are borrowing for a first home, which allows a longer payback

Unless you repay the loan, it is considered a premature distribution. You would owe federal and state income taxes as well as that 10% penalty if you are under age 59 1/2.

Answer 2

If you're asking if you can stop your automatic payroll deductions? The answer is no. That's the short answer...now the explanation.

There is an agreement between you, your employer, and the plan. You do not have the authority to stop the loan payments, since loan payments as a payroll deduction are based on an agreement with your employer. The employer would have to agree to stop the loan payments. Seems simple enough but your employer is required to exercise fiduciary authority in the sole interest of the plan and it’s participants NOT in the best interests of one participant within the plan.

The plan needs to achieve as high of a return on investment as they can. The loan is a plan investment no different than any other asset inside the plan. The investment was made, in part, based on the payroll withholding, which is how the return on the investment is generated. To allow you to stop the payroll withholding would mean the plan fiduciary allowed a plan investment to drop in value. Since this would not be in the best interest of the plan’s participants, it would not be permissible. Your employer would get in trouble with the IRS and DOL if they were found to have done this.

It would also be a violation of the loan agreement with you, which calls for automatic repayment of the loan through payroll deduction. Further, if your employer agreed to cease automatic payroll withholding, allowing the participant to voluntarily go into default, it may establish a precedent for all employees who could (if they knew about this matter), at a minimum, file a nuisance grievance with the DOL claiming they should be entitled to similar treatment (i.e. no automatic withholding and 'elective' default).

Furthermore, if the written loan program provides for automatic withholding, allowing the default would be a violation of the loan program which could cause the plan to be disqualified for not following the terms of the plan. Not likely to happen but not likely your employer would risk that.

Answer 3

Ask your employer. They will know for sure.