Laid Off, Weighed Down by 401(k) Loan

July 28, 2009 — -- In this economy, many of us are learning painful lessons. For some laid-off workers, one lesson learned is why it can be a bad idea to borrow money from your 401(k) retirement savings account, particularly when your job could be at risk.

Consider the lesson learned by a Michigan woman.

Q: I recently became unemployed through layoff due to a lack of work. I have an existing 401(k) loan with my former employer. My understanding is the loan is in default within 60 days of loss of employment.

My question is: Is there any way to continue to make loan payments in the agreed upon amount (previously payroll deduction) to prevent loan from being in default? If I continue to make the agreed upon payments on time, I do not understand why I am in default. I am still agreeing to pay the loan. Can my checking account be used for "401(k) loan automatic loan repay deduction" or can my husband who is employed have payroll deduction to continue to pay for my 401(k) loan?

I do not understand if I am able to continue to pay my 401(k) loan on time in the original agreed upon amount, why is the loan in default? I understand if I am ever late or miss a payment the loan would then be considered in default. A person should be able to make an effort to pay the loan off before being penalized especially in this tough economic time when banks are not lending etc.- L.B. Waterford, Mich.

A: L.B., you are encountering an unforgiving reality of 401(k) loans. And that reality is that in most cases, when you leave a job – whether by choice or by force – you will need to cough up some cash to pay off any outstanding 401(k) loans.

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