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Sandi Hargrove, SkyHawks
Sandi Hargrove, SkyHawks, Master Tax Advisor, Enrolled Agent
Category: Tax
Satisfied Customers: 1257
Experience:  I am a Master Tax Advisor and Enrolled Agent. I have 40 years experience. Trucking specialist.
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Why is my 401k loan payment repayed with after tax money

Customer Question

MY COMPANY HAS INFORMED ME THAT THE IRS REQUIRES THEM TO REPAY MY 401K LOAN WITH AFTER TAX MONEY. THIS MAKES ME PAYING TAXES TWICE ON THAT MONEY WHEN I RETIRE AND USE MY MONEY.
Submitted: 11 years ago.
Category: Tax
Expert:  Sandi Hargrove, SkyHawks replied 11 years ago.

Perhaps I can explain it better for you.


When you put the money into your 401K you did not pay tax. When you took the loan you did not pay tax. When you draw the money you will pay tax on the funds plus the deferred earnings.


IRS will allow you to defer the income only 1 time. The money to repay the loan must be paid with taxed money or the funds in the 401K will have been put into the account tax free 2 times.


You are actually paying tax on the funds only 1 time. The loan repayment is only being taxed when it is earned and the repaid amount is the part that is now looking like it is taxable.


example:


10000 contribution would be taxed at 10% for tax of 1000


you borrowed 5000 tax free which you repay with taxed money, so the tax at 10% is still 1000


the 5000 repaid amount is from further earnings at 10% which would be 500 tax


total tax for your 15000 of income at 10% would be 1500


IF you were allowed to repay with pretax money, the tax would be limited to only 1000. This is why IRS won't allow it.


Sandi Hargrove, SkyHawks, Master Tax Advisor, Enrolled Agent
Category: Tax
Satisfied Customers: 1257
Experience: I am a Master Tax Advisor and Enrolled Agent. I have 40 years experience. Trucking specialist.
Sandi Hargrove, SkyHawks and 4 other Tax Specialists are ready to help you
Customer: replied 11 years ago.
Reply to Sandi Hargrove, SkyHawks's Post: I ASSUME THAT THIS IS ACTUALLY IRS LAW SO THERE'S NOT MUCH I CAN DO ABOUT IT. BUT LET'S MAKE THE EXAMPLE EVEN SIMPLER. I HAVE 5000 DOLLARS IN 401K. IT IS TAX EXEMPT MONEY. I BORROW AND REPAY COMPLETELY WITH TAXABLE MONEY. A WEEK LATER I AM 65 AND I RETIRE AND DRAW MY MONEY. I AM THEN TAXED ON THE ENTIRE AMOUNT AS INCOME. I'VE PAID TAXES ON THE MONEY TWICE. ONCE WHEN I REPAID IT AND AGAIN WHEN I USED IT AFTER RETIREMENT.

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