When financial emergencies and big life moments happen, digging into your retirement account may be the last solution you think of. While it may not be everyone’s first choice, taking out a loan on your 401(k) can actually help when you need extra funds the most and are able to pay it back on time. But here’s the important part: This type of loan is not free money – you’re borrowing from yourself with interest and can be at risk of penalties if you fall behind on repayments.

To help you make the best decision for your financial security, we talk about everything you need to know about 401(k) loans below.

2025 401(k) Loan Rules

Here are the key rules and limits to keep in mind for 2025:

Maximum Loan Amount:

You can borrow up to 50% of your vested balance, which is capped at $50,000. The exception to this is that if 50% of the vested balance is less than $10,000, you can take up to $10,000.

Repayment Terms

  • Generally, loans must be paid back within five years.
  • Loans can be used to help buy a home, which allows a longer repayment period (15 years).
  • Repayments must be made at least quarterly and include both principal and interest.

Interest Rates:

Interest rates are dependent on your employer and their plan design, but it must be reasonable, such as 1-2%.

Written Agreements Required:

Every loan must be documented with a written loan agreement, which outlines repayment terms, interest rate, and schedule.

Limits & Restrictions:

Your employer can limit the number of active loans allowed, add rules on a minimum loan amount, and even enact a waiting period between loans.

Pros and Cons of 401(k) Loans

Pros:

  • You’re borrowing from yourself, not a bank or lender.
  • No credit check is required.
  • You’ll repay interest back to your own account.
  • It can be a great option for home down payments.

Cons:

  • There are missed growth opportunities by taking the money out.
  • Loans cause penalties if you leave your job before paying it off.
  • They can slow down your retirement goal progress.
  • Rigid repayment options – payments usually don’t have much wiggle room.

When Does a 401(k) Loan Make Sense?

While taking out a 401(k) loan isn’t ideal, there are situations where it may be your most logical choice, especially if other financing options prove to be more costly. For example, you can take one out if you:  

  • Have short-term emergencies like unexpected car repairs or medical bills that can’t wait.
  • Want to avoid high-interest credit cards or payday loans that will make your debt skyrocket.
  • Plan on buying a home and need a down payment (repayment terms are extended if a 401(k) loan is used).
  • Have a stable income and don’t plan on leaving your place of employment.

The key here is to use 401(k) loans responsibly. Remember: You’re borrowing this money from your future self, so if you pay it back and keep up with your contributions, you should be fine!

Are There Alternatives to 401(k) Loans?

Thankfully, there are quite a few other choices you may be able to take advantage of if you’re not ready to take out a 401(k) loan. Before making a next move, consider options like:

  • Personal loans from your bank or a credit union
  • Home equity loans (HELOC) or lines of credit
  • Credit cards with 0% APR or other money-saving promos
  • Emergency assistance programs such as state-run help, or even a financial well-being benefit that may be available through your job

What if You Don’t Make Your Loan Repayments?

If you fail to repay your loan, you could endure serious financial consequences. Whether you quit making payments or leave your current job before you finish repaying the loan, here are some examples of how an outstanding balance can impact you:

  • You’ll owe the unpaid balance in the year of the default as ordinary tax income. So, more taxes overall.
  • If you’re under age 59 ½, you could face an early withdrawal penalty on top of the taxes you already owe.
  • The loan can get treated as a distribution by the IRS.
  • If you leave your job, your loan will typically become due within a short timeframe, and if you don’t pay it back in time, it can be deemed as a distribution.

How do You Avoid Defaulting on a 401(k) Loan?

Some ways to keep your financial standing and 401(k) in good order include:

  • Setting up automatic payments through payroll (set it and forget it!).
  • Create a monthly budget that prevents you from falling behind on payments and keeps you on track towards your goals.
  • Check with your plan provider before you even set up your loan to get ahead and understand payment options.
  • Pay off your loan in full before leaving your employer.

Final Thoughts

Your retirement savings are meant to grow and help you build the future you want. So, when it comes to 401(k) loans, be sure to take them out sparingly and always have a plan to pay every bit of your balance back. At Ubiquity, we’re here to help you understand your options–not just with 401(k) loans but with tailoring a retirement plan that works for your business and goals. Whether you’re just getting started or are planning for some big life changes soon, we make it easy to take control of your future.

‍401(k) Loan FAQs

Does a 401(k) loan affect my credit score?

No, they don’t. They don’t involve credit checks and any loan you take out aren’t reported to credit bureaus. But don’t forget there are penalties if you don’t make payments on time.

Can I take our more than one loan at a time?

This depends on your plan. Be sure to check with your plan administrator to understand policies regarding this.

How long do I have to repay a loan?

You’ll five years to pay your 401(k) loan back with interest. If you used the loan to pay for your home though, the repayment period can be extended to 15 years depending on your plan provider.

How risky is it to take out a 401(k) loan?

The biggest risks include missing out on investment growth, setting back your retirement goals, and possibly owing more money if you default on the loan. So, be sure to take it out only If you know you’ll be able to pay back the balance and will stay with your employer.

Can I keep contributing to my 401(k) with an outstanding loan?

Yes, and you should keep contributing! This will ensure you stay on track to build up your future while repaying the money your borrowed.

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