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Borrowing from Yourself: The Determinants of 401(k) Loan Patterns

Authors

Abstract

This paper explores the determinants of people’s decisions to take 401(k) loans. We argue that 401(k) plans do not simply represent retirement saving, but they also provide a means of saving for precautionary purposes. We model factors that rationally would induce people to borrow from their pension plans, and we explain why people do not often use 401(k) loans to replace their more expensive credit card debt. Next we test our hypotheses using a rich dataset and show that people who are liquidity-constrained are more likely to have plan loans, while the better-off take larger loans when they do borrow. Plan characteristics such as the number of loans allowed also influence borrowing and loan size in interesting ways, while loan interest rates have only a small impact.

Key Findings

  • People not only use 401(k) plans to save for retirement, but also draw on plan loans to make ends meet.
  • People who are liquidity-constrained are more likely to take plan loans, while the better-off take larger loans when they do borrow.
  • When a plan permits participants to take more loans, this boosts the probability of plan borrowing and loan size, whereas loan interest rates have only a small impact on participant behavior.
  • Middle-aged people are more likely to take larger loans than those who are younger or older.

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Project

Paper ID

WP 2010-221

Publication Type

Working Paper

Publication Year

2010