Question: I currently have a 401(k) loan in the
amount of $19,200. My plan only allows
one loan at a time. I'd like to pay it off. What's the maximum amount I can borrow on a
new loan? After I pay off my current loan, I'll have a vested balance of $119,000 in my
account.
TB: The new loan may not exceed $50,000 less the highest outstanding balance during the
one-year
period before the date the new loan is made. Since you didn't say, let's assume that the
highest
outstanding balance was $27,000, during this one-year period, the additional amount you
may
borrow may not exceed $23,000. ($27,000+$23,000=$50,000) Sticking with this example, since
your employer permits only one loan at a time, the maximum amount you could borrow, after
repaying the existing loan, would be the sum of the balance from the existing loan
($19,200) and
$23,000 or a total of $42,200. These numbers must be adjusted using the actual amounts on
the
date the new loan is made.
Question: Here's why I think the "double taxation" argument doesn't hold
for 401(k)
loans: If I take a loan from any source, 401(k) or otherwise, I'm repaying it with
after-tax
dollars. Later on, my 401(k) distributions will be taxed, whether I put in pre-tax or
after-tax dollars. Is this correct?
TB: You're correct that loans must be paid from after-tax income regardless of whether
they're
done inside or outside a 401(k). Repaying a loan usually is painful regardless of the
source because
we must earn the money, pay taxes, and then repay the principle plus interest.
One point I'd like to make is you won't have to pay tax on your after-tax contributions
when you
take withdrawals. You will, however, have to pay tax on the interest those contributions
earned.
Historically I've referred to the double-tax issue only with respect to the interest that
you pay
yourself with a 401(k) loan. The fact that the interest is double-taxed should be
considered in
addition to the relative investment results.
Question: Can you ever save too much in a 401(k)? My tax bracket now and after
retirement will be the same. My 401(k) investment options consist of three index funds
and one money market fund. There is no company match.
How do I calculate when I should stop 401(k) savings (31% tax bracket) and begin
after-tax investing outside of 401(k) in Index Funds (deferred 20% cap gains) instead?
TB: Most tax advisors recommend getting whatever tax break you can now. The biggest issue
is to
continue saving at your present level. If you're under age 50, you should probably
continue to build
your retirement nest egg by contributing to the 401(k). If you are over 50 and have the
discipline to
save on your own outside the plan, you may want to reduce your savings rate within the
401(k)
rather than stopping altogether.
Question: Do you have any details about new laws Congress may be considering for
using
your 401(k) as a down payment on a house, without taking out a loan?
TB: Many bills are introduced in Congress each year. A significant number of them are
introduced
with little or no expectation that they will be enacted. The specific change you inquired
about isn't
likely to happen any time soon.
Question: In 1999, my friend started working for a new company. The benefits
office told
him he could immediately begin participating in the 401(k) plan. He filled out the
necessary paperwork, but the company never took out the contribution amounts from his
paycheck and never made the employer-matching contributions. This was even after
repeated efforts and requests throughout 1999 to get the company to do so. Now, in 2000,
he has been told that the failure to make the deductions and the employer contributions
was due to a paperwork snafu.
Evidently, this has occurred to a number of other employees hired at about the same time.
What are his rights to get his account credited for both the lost contributions and/or
lost
investment earnings?
TB: If the company says "sorry for the goof but there isn't anything we can do"
your friend's options
are somewhat limited. The first option would be to inform the person who oversees the plan
at the
company that he will contact the Department of Labor if the company doesn't make up the
lost
contributions. The next option would be to obtain an attorney to legally pursue this
matter. Before
your friend does either of these, he should consider how the employer would react. Is your
friend
likely to be viewed as a "troublemaker" if he pursues this further? If so, is it
worth the risk?
Correcting what has happened will be somewhat difficult, and perhaps impossible, since the
money
wasn't deducted from his pay during 1999. The employer could permit your friend to make up
the
contributions this year. Additionally, it could match these additional contributions to
the extent they
would have been matched last year, even though this will probably exceed the
employer-matching-contribution limits for this year. This special matching arrangement
probably will
have to be done outside the terms of the plan document. The IRS generally permits mistakes
to be
corrected particularly when the corrective action doesn't involve employees who are part
of the
highly compensated group. The employer could also contribute the lost investment income as
a
special additional contribution.
Question: For tax purposes, is it possible to treat the price of securities
purchased in my
401(k) as ordinary income, but the appreciated gain as a capital gain event? Suppose I
contributed $5,000 in 1991 and I bought 100 shares of stock at $50 a share. The stock is
now worth $200 a share. Is there a way to treat the $5,000 as ordinary income, but the
$15,000 as a capital gain?
TB: The only security held within a 401(k) plan that may ultimately be taxed at the
capital gain rate
is employer stock. If the shares you purchased are employer stock, when you leave the
company
and receive the stock as a lump sum distribution from the plan, you must pay tax on the
value of the
stock based upon the value at the time the stock was acquired. You won't pay tax on the
gain until
you sell the stock and it will be treated as a capital gain.
This special tax break applies only to employer stock. If you purchased the stock of some
other
company within the 401(k) plan, the amount ultimately distributed to you will all be taxed
as
ordinary income. That is why many financial planners recommend to those who are investing
significant amounts inside and outside a tax-sheltered plan such as 401(k) to place their
income-generating investments inside the tax-sheltered plan and their growth investments
outside the
plan.
 Read Ted Benna's Biography
Ted's Table Archives
Ted Benna, creator of the first 401(k) retirement savings
plan, answers intriguing questions every Tuesday. With over 30 years of experience as an
employee benefits consultant, Ted is a nationally recognized expert on benefits issues. He
has authored two books, Helping Employees Achieve Retirement Income Security and Escaping
the Coming Retirement Crisis, and is President of the 401(k) Association. Ted is a
frequent speaker at meetings of 401(k) plan sponsors and participants. His articles and
comments have appeared in numerous publications, including The New York Times and The Wall
Street Journal.
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