How Much Do 401(k) Loans Set Back Retirement Saving?

Taking a 401(k) loan may not be as detrimental to a participant’s retirement saving as is widely thought, according to new research from the Pension Research Council of the Wharton School of the University of Pennsylvania.

Loan-takers’ contribution rates, relative to those of non-loan-takers, fell by only 0.8 percentage points in the two years after a loan was issued. Most participants in the study were able to pay back to their retirement plan account a $1,000 withdrawal within the two-year period by increasing their contribution rate by two percentage points. Researchers also found that the stability of the contribution rate held across a spectrum of incomes and loan sizes.

When a participant takes a 401(k) loan, the amount paid to them in a lump sum comes from their retirement account. The employee then must repay the principal borrowed plus interest, via payroll deductions. If an employee separates from their employer before the loan is repaid, the full loan balance is typically due by the following April 15—otherwise, the remaining balance is to be treated as an early plan distribution, on which participants must pay income taxes and a 10% penalty.

More than three-quarters (78.5%) of plan sponsors that responded to PLANSPONSOR’s 2025 Defined Contribution DC Survey said their plan includes a provision allowing for participant loans. (PLANSPONSOR is a sister publication of PLANADVISER.)

Under the SECURE 2.0 Act of 2022, which built on the Setting Every Community Up for Retirement Enhancement Act of 2019, plan sponsors may allow participants to take penalty-free emergency withdrawals of up to $1,000 per calendar year for “unforeseeable or immediate financial needs relating to necessary personal or family emergency expenses.” SECURE 2.0 gives participants up to three years to repay such emergency withdrawals. Participants may not make another withdrawal during the three-year repayment period unless the first withdrawal has been repaid. According to the PRC paper, the lack of a tax penalty for taking the SECURE 2.0 emergency withdrawal could result in that option being used more frequently at adopting employers.

The Wharton paper cautioned that while additional liquidity can be valuable to participants under financial pressure, the potential for higher withdrawal activity raises the risk of retirement saving leakage.

To discourage leakage, John Beshears, a business professor at Harvard University and co-author of the paper, says plan sponsors might recommend an employee increase their deferral rate during their loan term to replenish their account, with the return earned on the larger contributions helping to offset returns on the money that was borrowed from the account. He explains that while the interest a participant pays on a loan at least partially makes up for the lost returns, it is not a complete recoup of losses.

Participants taking an emergency withdrawal, as permitted by SECURE 2.0 Section 115, are not required by law to repay their retirement account with interest.

Once a participant fully repays their loan, a plan sponsor might encourage the employee to increase their deferral rate to match what they previously had been spending on their repayment, Beshears suggests. For example, if during the loan term a participant deferred 8% of their pay per period to their 401(k) and spent an additional 2% of pay to replenish the borrowed funds, they could bump their total deferral up to 10% post-repayment.

The PRC study indicated that inertia from automatic deferral increases is likely to carry deferral rates higher, to some degree. Approximately 40% of the loan and hardship withdrawal takers in the sample did not opt out of automatic escalation of their contribution rates during the two-year period following their loan distribution. Nearly 25% of participants in PLANSPONSOR’s DC survey stated that their plan defaults them into auto-escalation at the time of enrollment unless they opt out.

“Downward contribution adjustments require an active choice from participants, which in most cases is not forthcoming,” the paper stated.

The PLANSPONSOR DC Survey was fielded in mid-2025. The results incorporated the responses of 4,387 plan sponsors.

The Pension Research Council used anonymized administrative 401(k) data records kept by Vanguard for approximately 1,400 plans that offered loans in 2017 and 2021.