I have never read of any financial planner that advocated borrowing against your 401k. In fact, 100% of everything that I read says to never do this. I do not understand this at all and wonder why.
I have borrowed against my 401k since this was allowed. In my 401k I have two options for investing. One is a fixed income fund that currently is paying ~5.75% interest. This is the closest option I have to a bond fund. The second option is some mutual fund or my company stock.
When I borrow against my 401k I am paying (currently) about 8% interest on the loan. Essentially, I have created a fixed income investment for my 401k that pays 8%. It seems to me that this is a better return than the fixed income fund that is my alternative choice. Since every financial planner is advocating that I have 30% of my 401k in a fixed income fund, why is the loan fund not a better deal than the fixed income fund offered by my company?
Now, you can argue about the merits of borrowing money, but if you need to borrow money anyway, why not pay yourself rather than a bank? It just makes more sense to me that the first place you should borrow is your own bank. And that is what my 401k is - a bank that makes investments.
The major risk is that you will change or lose your job before the loan is paid. For me that has not been an issue, but for young people who feel the need to switch jobs or people in unstable industries, I can see that point. The risk of having to repay the loan with a 10% penalty is steep.
For me this program has worked out great. I've borrowed to buy houses as well as other short term needs (usually for investing). I wouldn't think that borrowing to buy an HDTV is the thing to do here (but that is a completely different issue), but it is an option that can pay dividends.
So, am I missing something or does this make sense?
See part 2 here
Also see this webpage Using 401k Loans for Real Estate Purchase