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The Downside of Debit Cards and Your 401(k) Retirement Plan July 25, 2008

Posted by retirementwithaplan in Uncategorized.
Tags: , , , , , , , ,

Here’s the question that has many money managers and retirement
professionals perplexed: Why do people who seek to have a good solid
retirement, who want to save and enjoy the fruits of those savings one day,
think that having easier access to those accounts a huge plus?

The ability to borrow from yourself, tapping into savings that you have
accumulated in your 401(k) may seem like something that is designed for
emergency use only. As I suggested in an early article on the topic, the
practice of loaning yourself cash when certain problems arise such as
layoffs or medical emergencies is good only if you intend to pay yourself
back.. This “UOU” can be fraught with dangers however and with the
introduction of the 401(k) debit card, those accounts now have become much
easier to tap.

When you do need to borrow from those retirement savings accounts, known as
defined contribution plans, the process can often be difficult. Instead,
with a 401(k) debit card, the account is always available – up to $50,000
or 50% of the balance. The difference between the transaction done with a
debit card and one that is formally applied for is time. In many
instances, the 401(k) loan will need to be repaid within ninety days unless
it is used for such problems as a medical emergency, first time home
purchases or college. With a debit card although, the repayment window is
extended to five years per transaction. The interest rate, usually around
8% may be better than most savers might get outside of the plan.

If you can, avoid the temptation. The losses may seem minimal in terms of
interest rate but when you begin to calculate the lost opportunity of
growing that money, the possibility that you may be foregoing the matching
funds your employers deposits and taking the loan, the losses could amount
to upwards of 25% of what that money could have represented.

If you have the loan beyond the time limits, the money could also be taxed
as income. The one advantage of having a debit card attached to such an
account is the easy access you have to the money managed by your former
employer should you be laid off. That doesn’t mean you should use it.
Rolling it over to another account such as a tax-deferred IRA is the best



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