I have a co-worker convinced it is better to borrow from a 401k since you are paying yourself back vs getting a loan to buy something.
I checked and the 401k was making 20 percent for the year.
bank loan was like 7 percent.
I say if you borrow say 10k from the 401k you are losing about 800 bucks.
you lost 1150 ish in interest you made vs paying 300ish in interest in a loan.

am I not thinking about this right?
my co-worker says it is better because you paid that 10k back to your self instead of a bank.

You are right if your 401k goes up.  You have unplugged a strong performing asset and replaced it with a weak performing asset.  If your 401k goes down bigly, and you borrowed from it, you would come out ahead.  Problem is, I don't know which way markets are going to move in the future.
It is more about market movements than it is who gets the interest.

Another consideration is if you borrow from your 401k and get laid off or quit you may need to pay the balance immediately to avoid penalties.

It also depends on what you're borrowing it for.  A rental property or a business?  I'm good with it.

Also, borrowing $10k when you have $20k is a different story than borrowing $10k when you have $1m.  I realize it's the same amount of money lost/gained, but that built up base is gone for potentially 5 years and you have nothing growing in your retirement.

I've done it 4 times for other investments.  Not humble bragging, but I'm in the top 1% of 401k amounts for my age after all that borrowing.  My point is that I can be done successfully.  I have not done the math on whether bank money or my own money was the better move though.

Another problem is people reduce or cancel all 401k deposits while they're repaying their loan.

So really, based on those factors and the ones already posted, it depends.

Which option is better for him financially depends on the details - interest rate of each loan and the 401k rules he has to follow.  Then the market gets it’s say.  

My guess would be that which option is better will be determined entirely by how the market performs during the repayment period.  
If the market does great then he misses out on profit on the loan balance and the loan will likely be worse.  Market tanks then he misses out on the decline and his payments are reinvested at lowered stock prices.  

Absent major life events that you can’t plan for the best choice is most likely to not take a loan in the first place.

another issue with pulling from your investments is that while you are repaying yourself, you're missing time in the market. And historically time IN the market > timing the market.

my buddy does it but he buys rental properties with it, and it's worked for him. I won't do it, I'd sell shit off and beg/borrow or work OT or something rather than take money out of my retirement shy of a legit emergency

thanks for the insight.
I don't think it is a major chunk, just someone convinced them to do it this way because you are paying yourself back instead of a bank. and can't get their head around the loss of gain in the market vs paying for a loan.

As has been mentioned, unless you’re  borrowing from the 401k to invest in a business venture that you are projecting will make you a higher return than what it’s doing in the market, then there is no way I’d pull from it.

Done with forethought and strategy it can be a big time positive. But most people don't use forethought and strategy.

For example, in my early career, making less than I do now, I knew I wanted to save money to buy a home. I knew a 401k loan was an option on my plan. Instead of contributing only up to the employer match, paying taxes on the rest, and putting that money in a savings account, I maxed my contributions to build my 401k with the intent of eventually borrowing from it to buy a home. In that frame I had 2 scenarios laid out before me.

#1 Contribute 5% of my salary and pay income taxes on the rest, saving all other expendable income for the house.

#2 Contribute the max, not paying tax on it, and letting those contributions grow UNTIL I was ready to buy my home.

Option 2 gave me more money available to buy my home because I never paid income taxes on the pre-tax 401k contributions. My mortgage balance was significantly smaller, saving a great deal of interest paid to the bank. You get better rates when you can decrease the loan term length and your loan-to-value ratio is better. Does your 401k lose the potential growth? Yes, it does, and if you look at it with that tunnel vision it looks bad. But when you consider the entire picture it can be very financially advantageous to you. In the end, my 401k balance is much larger today than if I had chosen the alternative of only contributing to max the match. Once you get to later career and are likely maxing contribution limits you can't get back those early years where you possibly passed up the opportunity for maxing contributions in lieu of saving for a house etc. Why not do both?


Some cautions:

#1 if your 401k has any Roth balance and you cannot differentiate between pre-tax and Roth when initiating the loan then you will be additionally disadvantaged and should consider not taking the loan. For me, my employer did not offer Roth at the time so my entire 401k was pre-tax. They now offer Roth (I'm heavily into Roth now) and they do not differentiate. So if my 401k is 75% Roth and 25% pretax and I initiate a loan, 75% of the loan balance will come from my Roth. Reducing income potential for your Roth is counterproductive because you didn't have the tax advantage on the front end to offset the negative. If I were just starting my career I cannot say I would do it again simply for the fact that the Roth option on my 401k complicates things; it wasn't an option for me then. Every 401k plan is different and the possible benefits depend on the details of your exact 401k plan.

#2 Never borrow more than your emergency fund plus any other backup plans you may have. If you seperate from your job (voluntarily or involuntarily) you have a limited amount of time to repay the loan or face taxes, fees, & penalties associated with an unqualified distribution from your 401k. For me, I had a full year emergency fund plus I had a safety net in my parents who are always willing to give short term loans if needed.