Can You Borrow From an IRA Without Penalty?

can you borrow from IRA without penaltyRecently, I had a client call in and inquire about borrowing against their IRA.

Borrowing is more commonly associated with 401k’s, 403b’s and cash value life insurance policies.

With IRA’s, “borrowing” or taking a short term loan on your IRA is not allowed.

You are allowed to withdraw money with a 60 day grace period to put the money back; it’s considered to be a 60 day rollover.

If not, you will be taxed and penalized (if under 59 ½) on the amount you took out.

Why Would You Borrow From Your IRA?

If you’re in need of a quick infusion of cash but want to avoid those high interest payday loans, this could be a very effective strategy. The most common reason that people would do this is for a business or investment opportunity that would take too much time to get the funding for from a bank. Depending on your IRA custodian, you could have the cash in hand is as little as a week.

How Does the 60 Day Grace Period Work?

The 60 day grace period is considered to be a nontaxable rollover, so you are allowed to do this once every 12 month period. Please note that the 12 month period begins the day you received the check, not the day you redeposit into the IRA.

Who Might Do This?

A common scenario I see people attempt to “borrow against their IRA” has to do when they are buying a new house. If they are having trouble trying to sell their house, they think they can take a loan on their IRA for the down payment on the new home. 60 days will be here before you know it; that’s why this strategy is not recommended.

Borrowing Against Your IRA Not For All

If you are considering this strategy, be extremely conscious of the 60 day window. 60 days does not mean two months and don’t think that they exclude holidays and weekends. The IRS is very strict on this and you don’t want to pay tax and penalty when you don’t have to.

If you’re not confident that you can get the money back into your IRA in the 60 time window, DO NOT TAKE THE MONEY! . The potential tax and penalties do not make it worth it.

Other Words of Caution

To get money out of the IRA, you’ll have to liquidate your holdings to raise the cash. That means you’ll have to sell your mutual funds, stocks, or ETF’s. A lot can happen in 60 days in the market, so you’ll be missing out on what gains (or losses) occur in that time frame.

Other Loan Options

If you absolutely need to get a personal loan quick, there are other options. Your first stop should be your local bank. If that doesn’t work out, there are online option like Lending Club that will loan you money.

Typically, you would want to explore other borrowing options. But if you have opportunity that you need to act on quick, taking money from your IRA in this fashion might be your best option.

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Comments | 6 Responses

  1. says

    Hi Jeff,

    I’m under the impression that you are talking about Traditional IRA’s in this case. It’s my understanding that with a Roth IRA, you can take your original contribution out at any time without penalty. Is that true? Also, once you remove the contribution, you cannot replace it later. Right?

    Although, I would not encourage anyone to do that (make it a last resort), it is an option.

    • says

      @ Long Yes, the article pertains to borrowing from a traditional IRA. Thank for mentioning the Roth IRA; I should have mentioned it in the post. Shame on me!

      Your understanding on the Roth IRA is correct on all fronts. Thanks for adding to the discussion!

  2. Christina says

    What would your perspective be on withdrawing about $50k from your 401k to pay down a home equity loan that has an 8.6% interest rate? This would mean taking penalties on the money, but would remove the high interest loan and would allow the client to refinance their home and pay off their home faster. With the client then putting more of their income into their retirement. The client is in their early 30′s, there is still time to rebuild their investments.

    • says

      @ Christina

      Without running any numbers I don’t like it. Taking out a large lump sum like $50k takes years to accumulate for most. Even if you could afford to max out your 401k each year, it would take 3 years to get back to that mark. That’s 3 years that $50k would have had a chance to compound even more (market cooperating).

      Plus, you say withdrawing $50k from the 401k which probably means you’re only left with about $35k to go towards home equity loan.

      • Christina says

        Jeff –
        The $35k would pay off the equity loan. The loan was taken for 15 years and is supposed to be payed off by then. They are 5 years into the loan currently and have only paid off $2k of the loan due to compounding interest. If they weren’t to pay off the loan with the 401k money, what would be another option for taking care of this loan? The couple is living on one income right now and also has a student loan for a master’s degree starting up in December. Financially there is no other income to use to put towards this loan.

  3. says

    I like the 401k loans better. For one they force you to pay it back and they take it out of your paycheck. And you don’t have the 60 day payback deadline. These things are not for everyone and I would avoid either if at all possible. Get a loan!

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