The true cost of a 401(k) loan
A 401(k) loan is often described as free money, because the interest goes back into your own account. It is not free, and it is not always the bad idea it is made out to be either. This adds up what the loan costs you, including the growth your account misses and the tax paid twice on the interest, and sets it against borrowing the same amount somewhere else.
The true cost of a 401(k) loan
Borrowing $10,000 for 5 years
$2,304
- Interest you pay
- $2,094
- Tax paid twice on that interest
- $461
- Loan fees
- $75
- Growth your account misses
- −$325
- Interest on the other loan
- $3,316
- Effect on your account at retirement
- $1,259 more
- Tax bill if you left halfway, unable to repay
- $1,754
On these figures the 401(k) loan costs $1,012 less than borrowing at 11.9%.
That holds only while you keep the job. Leave halfway through with $5,481 still owed and no way to repay it, and you would owe about $1,754 in tax and penalty.
Year by year
The running cost of each way of borrowing. For the 401(k) loan that is the interest, the extra tax, the fees and any growth your account has missed so far. For the other loan it is the interest paid to the lender.
Show the figures for every year
| Year | 401(k) loan, this year | Other loan, this year | 401(k) loan, total so far | Other loan, total so far |
|---|---|---|---|---|
| 1 | $856 | -$7,337 | $856 | -$7,337 |
| 2 | $625 | $2,663 | $1,481 | -$4,673 |
| 3 | $458 | $2,663 | $1,939 | -$2,010 |
| 4 | $279 | $2,663 | $2,217 | $653 |
| 5 | $87 | $2,663 | $2,304 | $3,316 |
How this is worked out
What the 401(k) loan costs
- Interest you pay. It comes out of your pay, so it is a real cost to your pocket, even though it lands in your own account.
- Tax paid twice on that interest. You repay the interest from wages that have already been taxed, and it is taxed again when you withdraw it in retirement. This applies to a traditional 401(k). For a Roth account, set your tax rate to zero.
- Loan fees charged by the plan.
- Growth your account misses. While the money is out, it earns your loan rate, paid by you, in place of the market’s return. If the market would have earned more, that gap is a cost. If your loan rate is higher than the return you entered, this line shows a minus sign: your account ends up ahead, and that is taken off the total.
The alternative
The interest on a loan of the same size, over the same years, from a bank or a credit card. Your 401(k) stays fully invested in that case, so interest is its only cost.
The risk that does not show in the total
If you leave or lose your job, most plans want the loan repaid quickly. If you cannot, the unpaid balance is treated as money you took out: it is taxed as income, and if you are under 59 and a half there is usually a further 10% tax. You have until your tax return is due to put the money into another retirement account and avoid that. The label shows roughly what the bill would be if this happened halfway through. It is the main reason to be careful, and no average can price it for you.
What is not counted
- Contributions you stop while repaying, and any employer match lost with them. For many people this is the largest cost of all. If the repayments would squeeze out your contributions, the loan is much more expensive than it looks here.
- Your credit record. A 401(k) loan needs no credit check and does not appear on your credit report.
- Inflation. All figures are in the dollars of the year they are paid.
When a 401(k) loan does make sense
When the alternative is expensive, your job is secure, and you keep contributing while you repay. Set against a credit card it usually wins by a wide margin. Set against a cheap loan it usually loses. It is a poor choice for anything you could save up for, and a risky one if your job is uncertain.
Where the starting figures come from
The rules. The limit of half your vested balance up to $50,000, repayment within five years, and what happens to an unpaid loan are from the IRS guidance on retirement plan loans. Your own plan may be stricter, and not every plan offers loans.
The 401(k) loan rate. Plans set their own rate, commonly the bank prime rate plus one or two points. The prime rate was 6.75% in August 2026, so the calculator starts at7.75%. Check your plan’s rate.
Rates elsewhere. The Federal Reserve’s consumer credit release of October 7, 2026 gives average bank rates for August 2026 of 11.90% on a two-year personal loan and 21.19% on credit cards. These were read on October 10, 2026. The rate you are offered depends on your credit.
Our assumptions. The $10,000 loan, the $75 in fees, the7% investment return, the 22% tax rate and the 25 years to retirement are starting estimates. This is arithmetic, not tax advice.