Borrowing from your 401(k) may seem like a winning situation since you're essentially borrowing from and paying interest to yourself, but it can land you in a world of financial trouble if you lose or quit your job. Some borrowers don't realize that the full amount owed has to be paid back within weeks of leaving the job, says financial planner Harrine Freeman, CEO of H.E. Freeman Enterprises in Bethesda, Md. If you can't pay it back, it's treated as income, which means you'll have to pay taxes on it, along with a penalty if you're under 59½, Freeman explains.
Even without leaving your job, borrowing from your retirement fund still puts you at a financial disadvantage. "When you take money from your account, that's less money available to grow," Freeman points out. Moreover, some employers require you to suspend contributions until the loan is paid back. The compound interest and other investment gains you'll miss out on during these years can have a big impact on your retirement nest egg.
If you must: Carefully limit the amount of funds you borrow from your account; don't be tempted to take more than you need.