Should I utilize my 401K to Purchase a Home?

Erik Sandstrom

Mortgage Expert - Call 1-619-379-8999
Staff member
Loan Safe Mortgage
#1
With home prices constantly increasing many buyers want to get into the market before they are pushed out. We are seeing the younger generations, including the early millennial generation start to actively buy homes when they were hesitant in the recent past. That has a lot to do with steady rent increases and people wanting to make a smart investment with their money, among the many other benefits of being a homeowner.

We’ve been seeing that many people engaging in the market just don’t have the liquidity to purchase a home however have a large 401K or IRA that they consider drawing against. With down payments as low as 3% on a 500,000.00 home, the minimum investment is 15,000.00. When closing costs are taken into consideration you’re looking at roughly 30,000.00 unless you receive seller or lender credits for closing. After understanding that major obstacle a common resource looked at next is the retirement accounts.

Ways you can take out funds from a retirement account:
  • Taking a loan against your 401k or IRA – Typically the IRS will allow you to take up to 50% of the vested balance of the account as a loan. The great part about going this route is that it is not a taxable item because instead of taking the liquid cash you are taking a loan and repaying yourself back. Meaning, the interest that is charged on the loan is going right back into your account rather than the pocket of a banker.
  • First time Homebuyer – in some cases they will allow you to take up to a certain amount being a first-time homebuyer that may not be taxable.
I would recommend calling your retirement account provider, each one will have a separate set of rules when taking a withdrawal or loan against the account. You should also discuss the consequences with your accountant or CPA as well.

Scenario: I have recently purchased a home and was considering what was most important to me when it came to a mortgage. The importance for me personally was affordability, can this be a long-term investment and of course can I call it home. The most important of those factors was affordability, what was I going to do to make that payment more affordable and what can I do to keep myself as liquid as possible.

The first question came to my mind of how can I make the payment more affordable. Well that led to a few different things, putting more down, buying the interest rate lower than market or buying the mortgage insurance out as a single premium and only putting 5% down (where you pay one lump sum to eliminate the monthly payment). The monthly payment of the mortgage insurance was going to be roughly 280/mo and the single premium buyout (this was a conventional loan) was 8550.00. Now the problem was I wasn’t expecting to come in with an extra 8550 but I predicted that I wasn’t going to be refinancing this loan anytime soon so I had to find a way to get my payment as low as possible.

After thinking about the above information, I called my retirement provider and asked them if I can withdraw money without being penalized. They said the only way to do that was with a loan but the interest rate is very low and they could give me a term of 7 years. That made up my mind for me, the payment on the 401K loan was only 28.00 per month which saved roughly 250/mo. I considered that a win/win but was it truly beneficial for my future? Personally, I would say yes, because again I’m repaying the debt that I took from myself back to myself instead of a bank. The other win was being able to stay in my hometown at an affordable payment instead of being pushed out by the high rents.

Now the above was my personal experience but I have also consulted with professionals in this matter and there are two consensuses. My personal reason for taking funds out of the 401K only remains beneficial to me if I don’t refinance or sell the home within 3 years. That is because it would take that long to recover from the initial cost vs the monthly savings. Only time will tell if I made the right decision or not.

Other situations people are taking out a full 20% to not have mortgage insurance at all in their monthly payment. If you can go this direction it would be the best because you are gaining instant equity and not just throwing money at a wall and hoping it sticks (or I should say gambling).

When should you NOT borrow against your 401k?
Borrowing from your retirement account should really be your last resort however if it’s the only way to afford to buy a home, it may make sense as real estate is a form of saving for retirement.

Loan defaults are usually the reason it doesn’t make sense to borrow against your 401K. That lovely payment that I have of 28/mo is great but if I quit my job or am terminated, that loan becomes repayable in full. If you can’t repay the loan within a certain period of time the amount you withdrew will become taxable. Can you imagine if you ended up having to pay taxes on an extra 60,000.00 that you withdrew?

You’re ultimately taking a risk when utilizing your retirement account when purchasing a home. You must take into consideration those risks vs. rewards and also consult a professional about these matters.

If you would like some personal advice from someone that has done this recently, please don’t hesitate to reach out at 619-379-8999 or [email protected].
 

Jzone

LoanSafe Member
#2
I'm considered the same for my retirement home/land. I can also borrow 50% of my 401K plan and payback is 5.5% interest. I plan on borrowing about $15,000 to buy some farm land (5 acres in Michigan), then build a small 2 bedroom home on it in a few years.
 

Erik Sandstrom

Mortgage Expert - Call 1-619-379-8999
Staff member
Loan Safe Mortgage
#3
That's awesome Jzone, much better than paying interest to the banks right!