IRA Loans Don’t Exist – 4 Things You Can Do Instead

Retirement accounts like a 401k or solo 401k allow you to take out a loan from your account. Unfortunately, there’s no such thing as an IRA loan. However, there are work arounds that allow you to temporarily access your IRA funds that work similarly to taking out a loan.

With a 401k loan, you’re allowed to take out up to 50% of your account’s value, up to a maximum of $50,000. Interest rates are lower than most personal loans and credit cards at just prime rate plus one or two percent. You can take out a 401k loan as long as your plan provider makes the option available within their plans. 

Unfortunately, an IRA doesn’t give you any loan options. A plan provider cannot make the option available because it doesn’t exist in the first place.

You can only take money out of an IRA through a withdrawal or a rollover. As you’ll see in a minute, a rollover could be the best alternative to the non-existent IRA loan. But let’s save the best for last and go over your other options first.

Option #1: Make an early withdrawal

With an IRA, you’re allowed to start taking distributions without penalties once you reach the age of 59½. Any withdrawals made before you reach the age of 59½ are considered early distributions and are subject to a 10% penalty plus income taxes.

Since a loan isn’t available, one option is to accept the early withdrawal penalties and just take the money out as an early distribution. If you’re over the age of 59½, you won’t have to pay any penalties and will only need to pay income taxes if you’re withdrawing from a traditional IRA (Roth IRA withdrawals are tax-free). You won’t be obligated to put the money back, but you’ll miss out on investing that money in your IRA with tax-free compounding.

For example, if you withdraw $10,000 from your IRA as an early distribution, you’ll have to give $1,000 of it to the IRS as an early distribution penalty, and then pay income taxes on the $10,000 amount that was withdrawn.

The income taxes you’ll owe depends on your tax bracket and tax rates at the time of withdrawal. If you’re in a high tax bracket, the early distribution could get very expensive.

Also read: Roth vs Traditional IRA

Option #2: Withdraw contributions from a Roth IRA

A Roth IRA has a unique rule that no other retirement plan has: it lets you withdraw your contributions at any age without penalties.

For example, if you’ve contributed a total of $10,000 to your Roth IRA, you can withdraw up to $10,000 from your account at any time without paying penalties or taxes. You don’t have to pay any taxes because with a Roth account, you already paid income taxes at the time of contribution.

Earnings are treated differently. You cannot withdraw your earnings until you reach the age of 59½ and it’s been at least 5 years since your first Roth IRA contribution. This is referred to as the 5 Year Rule.

For example, if your $10,000 Roth IRA contributions grew to a value of $100,000, you would only be able to withdraw $10,000. The $90,000 are considered earnings and taking early distributions of earnings would result in a 10% penalty plus income taxes.

Option #3: Do a 60-day rollover

A rollover is the act of transferring your retirement plan’s funds and assets from one account to another. You could choose to do a direct rollover or an indirect rollover, also known as a 60-day rollover.

With a direct rollover, you don’t get access to your funds. It simply gets transferred from your old plan provider to your new plan provider. We’ll ignore this option since what we’re looking for is access to our IRA funds, which is done through an indirect rollover.

An indirect rollover, also known as a 60-day rollover, is the closest thing to an IRA loan. In a 60-day rollover, your old plan provider will send you the funds in the form of a check, rather than sending it directly to your new provider. The IRS then gives you 60 days to deposit the money in full to your new retirement account.

You’re allowed to use the funds however you wish during the 60 days as long as you are able to deposit the money in full before the deposit deadline.

Because you only get 60 days before you need to come up with the funds to make the deposit, this option is only viable if you’re in quick need of a short-term loan. If you fail to deposit the full amount into your new retirement account before 60 days, it will get treated as an early distribution and you’ll be subject to the 10% early distribution penalty, plus income taxes.

If you’re confident you can deposit the money in full before the 60 day deadline, a 60-day rollover is the closest alternative to taking out a loan from your IRA. There are no taxes and penalties (unless you miss the deadline).

Are there any fees for a 60 day rollover?

While there are no taxes or penalties levied by the IRS, your plan provider may charge a small administration fee for performing the rollover.

10% gets withheld

Another important consideration for the 60-day rollover is that your old plan provider is required to withhold 10% of your rollover amount. This amount is used as a safeguard in case you cannot return the money by the 60 day deadline. If you miss the deadline, the 10% will get used to pay the early distribution penalty. The 10% is returned to you in the form of tax credit the following year, if you successfully deposit the full amount into your new retirement account before the 60 day deadline.

This puts you in a situation where you need to come up with the 10% withheld amount on your own through other sources. For example, if you do a 60-day rollover for $20,000 from your IRA, $2,000 would get withheld, leaving you with $18,000. You must come up with the $2,000 from other sources and deposit the full $20,000 amount into your new retirement plan before the 60 day deadline.

Note: You are only allowed to do a 60-day rollover once per 12 month period.

Option #4: Rollover to a solo 401k and take out a loan

You cannot rollover a Roth IRA to a solo 401k, but you can rollover your traditional IRA to a solo 401k without any penalties or taxes.

If you have any sort of self-employment income, and you don’t have any full-time W-2 employees that work over 1,000 hours per year in your business (except your spouse), then you qualify for a solo 401k.

A solo 401k has the highest contribution limits at $61,000 for 2022 and $66,000 for 2023. If you’re over 50, you can contribute up to $67,500 for 2022 and $73,500 for 2023. That’s 10x higher than an IRA. In addition, you also get full checkbook control over your account, can invest in alternative assets, and can make Roth contributions up to $20,500 for 2022 and $22,500 for 2023. If you’re over 50, your Roth contribution limits are $27,000 for 2022 and $30,000 for 2023.

In comparison, a Roth IRA only gives you a contribution limit of $6,000 ($7,000 if age 50+) for 2022 and $6,500 ($7,500 if age 50+) for 2023.

But the main reason why you might want to rollover your funds to a solo 401k is that, if your plan provider makes the option available, you can take out a loan from your solo 401k.

How much can you borrow from a solo 401k?

The maximum amount you can borrow is the same as a 401k loan. You can borrow up to 50% of your account value, up to a maximum of $50,000. Interest rates are prime rate plus one or two percent, and you get 5 years to repay the loan. If you use the money to purchase a primary residence, you can get up to 15 years for repayment.

Since a 60-day rollover only gives you access to your funds for 60 days, rolling over your IRA to a solo 401k, and then taking out a solo 401k loan could be another consideration, especially if you need more time to pay back the money. A solo 401k loan also does not withhold any of your money.

Wrapping up

There is no option to take out a loan from your IRA, like you could with a 401k.

Your only options are to:

While a 60-day rollover is the closest alternative to an IRA loan, you’re not given much time to repay the money. In addition, 10% of the rollover amount gets withheld, so you have to come up with the withheld amount from other sources. However, a 60-day rollover has no penalties or taxes and you’re allowed to use the money however you like as long as you’re able to deposit the full amount by the 60 day deadline.

If you’re able to open a solo 401k, rolling over your traditional IRA into a solo 401k and taking out a solo 401k loan could be a better long-term alternative. You can borrow up to $50,000 with a lower interest rate (prime rate plus one or two percent) than most personal loans, and are give up to 5 years to repay the money.