Should you apply for a 401(k) loan to renovate your home?

You’ve probably heard it said a thousand times that you should leave your retirement savings alone. After all, the longer you let your retirement savings sit unspent and unspent, the better your chances of turning it into sizable savings, especially since missing just five of the best market days could leave you with half the amount you otherwise you would have had. — according to a Fidelity study.

But a 401(k) loan is a interesting animal. This is a loan that you essentially take out against yourself, which means that what you borrow will eventually be paid back. And yes, while there is an interest rate attached to your loan, it is an interest payment that goes back into your 401(k). For homeowners looking for ways to finance renovation projects, this raises a good question: Might it be smart to use your 401(k) to finance home renovations, especially if your other options are high-interest debt?

It is a complicated question. But let’s take a closer look and see if borrowing money from your retirement savings to renovate your home is worth it.

Do it if reforms are necessary.

A 401(k) loan might be worth it if the renewal is urgently needed. For example, if you need to remodel your home to make it wheelchair accessible (install ramps, customize handrail spaces, or build an elevator), your 401(k) could provide a way to avoid personal loans and credit cards. Similarly, if your home presents a security risk that homeowners insurance doesn’t cover, your 401(k) could help you pay for projects without going into debt.

As I’ll discuss below, a 0% APR credit card could also give you a low-cost borrowing option to make these renovations. But depending on your circumstances, your 401(k) could be a viable option.

It might be worth it if it means increasing your equity before selling a home.

Focusing on renovations that increase the value of your home could mean selling it for a higher price. In this case, a 401(k) loan might be worth it. You could take the proceeds from your sale to pay off the loan, effectively putting your 401(k) money back where it belongs.

But this may not work as well as you might think. For one thing, you need to focus on renovations that in fact Return what you pay for them. The list of home renovations that give you a 100% return on investment is surprisingly short and is usually limited to projects that increase curb appeal, like replacing your front door or adding new siding. Renovating your kitchen or bathroom could bring you a good return, but certain large-scale projects can cause you to spend more out-of-pocket than the resale value.

Weigh the disadvantages carefully before proceeding.

Borrowing from your 401(k) has consequences, one of which is the loss of potential earnings from your investments. But even more than the opportunity costs, getting a 401(k) loan carries some risks, including:

• Taxes due and penalties: Even though you are paying yourself money, you are expected to make payments on time. If you don’t pay back what you borrowed, the IRS will treat it as a distribution of income. You’ll have to pay ordinary income taxes and may be subject to a 10% withdrawal penalty if you were under age 59½ when you borrowed the money.
• lose your job: Normally, you have five years to repay what you borrow. But if you lose your job before paying off the loan, you’ll owe the remaining balance by Tax Day for that year’s taxes.

On top of these risks, your 401(k) provider may not even allow 401(k) loans. Check with your provider to see if it’s possible, and if it is, make sure the fees are worth it for borrowing the amount you’re interested in withdrawing.

Consider a 0% APR credit card instead

If you can’t borrow money from your 401(k), or don’t want to risk missing out on the best days in the market, you can finance your home renovation with a 0% APR credit card.

These cards have a promotional period of 0% interest during which you will not pay interest on what you borrow. This gives you time to pay off your balance without risking credit card debt. Just be careful: once the 0% APR promotional period ends, you’ll start paying interest at a higher rate. As long as you can pay off what you borrowed before the end of the term, these cards could provide an inexpensive way to renovate your home.