Can You Use a 401(k) Loan for a Down Payment on a Car?

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Megan Foukes is a recent graduate from Indiana University who graduated with a bachelor’s in journalism. Megan works as a content writer for Auto Credit Express and contributes to several automotive and finance blogs.


, - February 7, 2019

The simple answer is yes, you can use a 401(k) loan as a down payment for your next vehicle. Whether or not you should take out a 401(k) loan for a down payment is up to you.

How Does a 401(k) Loan Work?

A 401(k) is a retirement plan and most come with a loan provision. If you want to take out a 401(k) loan, you’re going to be limited on how much money you can borrow. The IRS allows you to borrow up to 50 percent of your account balance, or $50,000, whichever is less. Once you decide how much you need, you agree to repay the loan, with interest, in monthly or quarterly installments, within five years.

If you miss a payment on your loan, it ends up being counted as a distribution (withdrawal) from your 401(k). The IRS treats the distribution as taxable income, plus an additional 10 percent penalty if this happens before you reach 59 and a half years old.

Pros and Cons of Borrowing from a 401(k)

What kind of baggage comes with borrowing from a 401(k)? There are both advantages and disadvantages to taking out a 401(k) loan to use for a down payment. Let’s take a look at what’s good, and bad, about borrowing from your retirement plan for a car:

Some pros include…

  • No credit check – Because it’s your money, if you want to take out a 401(k) loan, you don’t need to go through a credit check to borrow from your own 401(k).
  • Low interest rate – You’re going to be charged interest, but the interest rate is generally much lower compared to an auto loan interest rate.
  • You pay yourself back – Both interest and principal payments go back into your 401(k), not to a creditor.

Some cons include…

  • Missing payments turns into distribution – As we mentioned before, any missed payments can cause the loan to be treated as a distribution and taxed as income.
  • If you lose your job, you pay – If your job situation goes sour, you need to pay back the entire loan balance within 60 days.
  • You’re paying multiple loans at once – Can you afford paying for both an auto loan and a 401(k) loan at the same time, for possibly the same length of time? Interest charges add up fast for both, so be cautious.

The Bottom Line

You can borrow from a 401(k) loan and use it as a down payment for your next car, but you need to be aware of some key drawbacks, such as paying for two loans at once. It may sound like a good idea, but if you can’t financially handle two loan payments, or want to use your 401(k) money for its true purpose – retirement – then it may be best that you save up for a down payment on a car loan.

If you have a down payment ready to go and just need a lender to work with, let CarsDirect be your guide. We can help you get matched with a dealership near you that specializes in working through challenging credit situations. Our service is free of cost and obligation, so you can get started by filling out our auto loan request form today.

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Megan Foukes is a recent graduate from Indiana University who graduated with a bachelor’s in journalism. Megan works as a content writer for Auto Credit Express and contributes to several automotive and finance blogs.


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