Newsgroups: misc.invest


We're getting rather far afield of car loans, but I'm wondering about
two points about 401Ks that have been raised:

> From: gerryk@ulysses.East.Sun.COM (Gerry Krajenka)
> 
> I took out a 401K loan for bill consolidate and this is how it went for me...
> 
> 
> you can borrow half of your money at a time  -- one loan at a time...
> if you loss your job you can take the rest of your money and pay off the government..
> you pay yourself back at 8% interest...
> you pay off the loan with,  before tax dollars....

> Gerry

Are you 100% sure about this?  I am under the impression that my own 401K
loan is being repaid with _after_ tax dollars.  I'll check again, but I
would be curious as to how certain you are of the your statement that the
loan is being repaid with "before tax" dollars.

Otherwise, it would seem a trivial manner to circumvent the yearly limits on
401K contributions by always paying on a loan.  In other words, I would
continue to defer the max amount of new money possible, plus paying on as big
a loan as possible:  My result is that I get to put 1.5X the maximum into my 
401K).  It seems like this is too big a loop-hole to have been overlooked!

> From: masimo@netcom.com (Michael Maas)

> 
> This could be considered an exception.  If you borrow from your 401k, the plan
> will require you to pay market interest on the borrowed money.  The interest
> you pay though goes right back into your 401k. So you are both using the money
> and investing it at the same time in this situation.

> Mike

Agreed, but as I understand it you are paying that interest with _after_ tax
dollars (just as you would with any other loan).  When you withdraw, at 59
1/2 (or whatever legal age) you will pay taxes on everything in the account,
right?

Thus it seems to me that you will have been taxed _twice_ on some small part
of the money in the account since you can no longer deduct the interest on
the 401K loan.  You aren't really being taxed twice on the principal of the
loan since you are simply "returning" money that had previously been part of
the pot that is enjoying delayed taxation.

Can somebody help me out here?  I think the following is true:

If I borrow a $100 from the bank or a $100 from my 401K and paid _no_
interest on either loan, but just paid back principal, at the end of time I
will have paid the same amount of taxes, either way.

But, I will pay taxes twice on the money I earned to pay the interest on that
$100 401K loan, right?  (Of course, I only pay taxes once on the second order
interest, that is the interest/cap gains that is earned by the interest!)

Also, has anybody worked through the numbers to see what impact the above (if
its true) has on your total taxes, assuming various tax rates in the future?

I guess what I'm driving at is that you get a benefit in that the second
order interest (interest or cap gains on the interest you paid on your 401K)
is deferred.

But you pay taxes _twice_ on the interest itself, now and in the future.  In
one scenario, such as being fairly close to withdrawal such that the tax
deferred earnings on your interest (second order interest) are quite small,
it might be a disadvantage to take out a 401K loan and pay interest on it.

But maybe this all balances out since by paying interest on a 401K loan, you
can effectively get more money into your 401K (and thus defer more taxes on
your growing investment) than somebody else without a loan since your
contribution maximum is really (MAX + interest on outstanding loans).

My head hurts now ...

Stuart Bobb
sjb@fc.hp.com
Newsgroups: misc.invest