Using Your 401(k) for a Car: Options & Considerations

How to Purchase a Car Using a 401k. While your 401k retirement plan is meant solely for retirement, it is possible under certain circumstances, and with certain conditions, to access the funds in it for a major purchase. If you do draw money from your 401k plan, financial experts recommend you create a plan to replenish the money.

Purchase a Car Using a 401k

Step 1

Exhaust all other options to finance your car purchase before using the funds saved up in your 401k plan. If you're having a hard time getting financing in place because of a mediocre credit history, you're better off taking a year or two to rebuild your credit rather than compromising your retirement fund.

Step 2

Review the terms of your 401k plan to make sure you understand the conditions under which you can access the money early. Normally, you're not permitted to withdraw money from your 401k until you reach the age of 59 1/2, but every plan is a little different and virtually all of them have provisions allowing early drawings under defined circumstances.

Step 3

Be prepared to pay the penalty if you do qualify to withdraw money from your 401k early. The standard penalty for using money out of a 401k is a 10 percent penalty on the withdrawal, in addition to whatever income taxes would normally apply to the money. For example, if you're in a 30 percent tax bracket and you take $15,000 out of your 401k, you'll only actually have $9,000 to spend after you pay the taxes and penalties.

Step 4

Draw up a personal finance plan that will free up money to replace what you took out of your 401k. Again, you'll have to review the specific terms of your personal 401k plan to see how much you're permitted to contribute towards it each year.

Step 5

Replenish the money you took out of your 401k in the years following your car purchase. If you find yourself in a better financial position down the road, consider selling the car and funneling the proceeds directly back into your retirement savings plan.

Tip

Buy a late-model used car instead of a new car. A new car depreciates between 20 and 33 percent the second you drive it off the lot. A good used car is a better investment of your money.

Warning

Avoid borrowing against your 401k plan, if at all possible. While you may not feel the financial repercussions for years to come, retirement savings are an essential part of any smart personal finance plan.