Retirement accounts
How Much Can You Borrow From Your 401(k)? The Limit and the Repayment Trap
Your 401(k) loan ceiling is half your vested balance, capped at 50,000 dollars. Here is how the formula works and why leaving your job is the expensive part.
The most a 401(k) plan can lend you is half your vested account balance, capped at $50,000. A $60,000 vested balance gets you $30,000. A $400,000 vested balance still gets you $50,000, because the dollar cap does not scale with the account.
Two details move that number more often than people expect. The base is your vested balance, not the figure at the top of your statement. And the $50,000 side of the test has a memory: it looks back twelve months at what you have already borrowed.
The formula, in the order the plan applies it
Section 72(p) of the tax code sets the ceiling as the lesser of two quantities, measured against all your loans from the plan added together:
- $50,000, reduced by the excess of your highest outstanding loan balance during the prior twelve months over what you owe on the day of the new loan.
- The greater of half the present value of your nonforfeitable accrued benefit, or $10,000.
The smaller of the two is the ceiling. And it is the maximum a plan can permit, not the amount it has to offer. Plan documents routinely stop short of the statutory line, and the loan agreement is where the actual number lives.
Nonforfeitable means vested, and that shrinks the base
Nonforfeitable is the statute's word for vested. Your own salary deferrals are vested the moment they land. Employer match money often is not, and until it clears the schedule it does not count toward the base.
A statement showing $70,000 with $12,000 of unvested match is a $58,000 base. Half of that is $29,000, not $35,000. The $6,000 of borrowing capacity you appear to have simply is not there. Cliff vesting sharpens this, because a worker one month short of a three-year cliff has zero employer dollars in the base at all.
The $10,000 clause and the flat stretch it creates
Half of a small balance is a very small loan. So the statute lets a plan lend up to $10,000 even where half the vested balance comes to less than that. The effect is a flat stretch: from $10,000 to $20,000 of vested balance, the ceiling sits at $10,000 and does not move.
This clause is permissive, not required. Plenty of plans skip it and cap every loan at half the vested balance regardless of size.
The kink at $100,000 is where the dollar cap takes over. Past that point a larger balance buys no additional borrowing capacity at all, which is why the ceiling is a much bigger constraint for someone with $400,000 saved than for someone with $80,000.
The $50,000 cap remembers the last twelve months
The reduction on the first prong is the difference between the highest balance you owed the plan at any point in the prior twelve months and what you owe on the day the new loan is made.
The IRS works its own example. A participant with a $100,000 vested balance borrows $40,000. Eight months later the balance is down to $33,322 and they want a second loan. The reduction is $40,000 minus $33,322, or $6,678. The new ceiling is $43,322 rather than $50,000.
The rule exists to stop serial borrowing. Repay a loan in November and take a fresh one in December, and the November peak still counts against you until twelve months have gone by.
Worth separating two effects that get conflated. Any loan you are still carrying counts against both prongs, because the ceiling applies to the total of all your plan loans. The twelve-month lookback is an extra penalty, and it lands only on the $50,000 prong.
Five years to repay, out of after-tax pay
The statute requires the loan to be repayable within five years by its terms, with substantially level amortization and payments no less frequently than quarterly. Most plans go further and take the payment every payroll period, which is why a 401(k) loan feels like a payroll line rather than a debt.
Two things the schedule does not do. It does not adjust when your pay drops. And a missed payment is not instantly fatal: a plan may allow a cure period running to the end of the calendar quarter following the quarter in which the payment was missed. Blow past the cure period and the whole outstanding balance becomes taxable income for the year.
The one exception to the five-year rule
A loan used to acquire a dwelling that will be your principal residence within a reasonable time is not bound by the five-year rule. The statute names no outer limit for that case, so the plan document sets the term. Whether it holds up as a decision is a different matter, worked through in using a 401(k) to buy a house, and it does not follow from the loan rules alone.
Where the "taxed twice" claim comes from
A loan that meets the 72(p) conditions is not a distribution, so the money arrives untaxed. Repayment then comes out of net pay, after income tax has already been withheld. Untaxed on the way out, taxed on the way back.
That asymmetry produces the most repeated claim about 401(k) loans, which is that you get taxed twice on the same dollars. It is half right, and the half matters.
The principal is not taxed twice
You received $25,000 that was never taxed on the way out. You return $25,000 of already-taxed money. Those two facts cancel. The account is restored to where it was, and the balance is taxed once, at withdrawal, exactly as it would have been if you had never borrowed.
The interest is the part that gets hit twice
Interest is not principal coming home. It is new money. You earn it in the job, pay income tax on it, deposit it into a pre-tax account, and pay income tax on it again when it comes out in retirement. On a $25,000 loan at 8.5% over five years, the interest totals $5,775. The second layer of tax applies to that figure, not to the $25,000.
Set against it is the fact that the interest lands in your own account rather than a lender's. A bank loan at the same rate costs you the interest outright.
Leaving the job is where the money actually goes
Payroll deduction only works while there is a payroll. Separation ends the repayment mechanism, and plans commonly call the balance due at that point.
What follows is not a default in the ordinary sense. The plan reduces your account by the unpaid balance, and that reduction is a plan loan offset. The IRS treats an offset as an actual distribution, reported on Form 1099-R, taxable in the year it happens, plus the 10% additional tax if you are under 59½ and no exception applies. Separating from service in or after the year you turn 55 is one of those exceptions.
The offset can be undone, but the clock is specific
An offset caused by severance from employment, or by the plan terminating, is a qualified plan loan offset. It gets a longer rollover window than the usual 60 days. An equivalent amount can go into an IRA or another employer plan any time up to the due date of that year's tax return, including extensions. Filing an extension carries the deadline to October 15, which can be roughly sixteen months after the offset itself.
Two conditions attach. The offset has to occur within twelve months of the severance date, and the loan has to have satisfied 72(p)(2) immediately before the triggering event. A loan that already defaulted while you were still employed is a deemed distribution instead, coded L on the 1099-R rather than M, and it cannot be rolled over at all.
The practical catch is that the rollover money has to come from outside the plan. You are covering the loan balance out of ordinary savings at the exact moment the paycheck stopped. What happens to a 401(k) when you leave a job is the wider version of this problem, and the outstanding loan is the piece with a deadline bolted to it.
What the loan costs while it is running
The folklore says the borrowed money misses the market. True, and smaller than it sounds, because the repayments do not disappear. They go back into the account with interest and get reinvested as they arrive.
The arithmetic has a clean result. A level-payment loan is itself an annuity, so the repayment stream and the untouched balance land in exactly the same place when the market return equals the loan rate. Above that rate you give up the spread. Below it, you collect it.
On $25,000 borrowed for five years at 8.5%: the account ends $1,414 behind if the money would have compounded at 10%, and $1,280 ahead if it would have compounded at 7%. Over a five-year stretch where the market falls, the borrower ends materially ahead, which is the opposite of what the folklore predicts.
Two forces the chart leaves out, and both run against the borrower. The first is the extra layer of tax on the interest described above. The second is bigger: loan repayments are not plan contributions. They earn no employer match, and they do not count toward the $24,500 elective deferral limit for 2026. When the payment crowds out the deferral, the forgone match dwarfs the market spread.
Loan, hardship distribution, or neither
The three options differ on four things that matter, and the tax treatment is only one of them.
| Plan loan | Hardship distribution | No withdrawal | |
|---|---|---|---|
| Taxed in the year taken | No, while the terms are met | Yes, on the untaxed portion | No |
| 10% additional tax under 59½ | No, while the terms are met | Yes, unless an exception applies | No |
| Money can return to the account | Yes, with interest | No, never | Not applicable |
| Ceiling | Half the vested balance, max $50,000 | The amount necessary to meet the need | Not applicable |
| What a job change triggers | Offset, taxable unless rolled over | Nothing | Nothing |
The row that decides most cases is the third one. A hardship distribution permanently removes the money and its future compounding, and the tax code offers no route back in. A loan removes the money temporarily and charges you a spread for the privilege. That difference is worth far more than the headline tax comparison.
The mechanism in one line
A 401(k) loan is not a withdrawal, and it is not free money. It is a swap. Your account stops holding a market investment and starts holding a loan to you, at a rate the plan sets, backed by the account itself.
That framing predicts everything above. The ceiling tracks the vested balance because the vested balance is what backs the loan. The five-year term exists because a retirement plan is not meant to operate as a mortgage lender. And the separation trap exists because the collateral walks out the door with you the moment the payroll deduction stops.