Can I buy a house with my 401 (k)?
Using your 401 (k) to make a down payment on a home is generally acceptable.
There are even some advantages: 401 (k) loans are not taxed, have no impact on your creditworthiness, and have low interest rates.
Borrowing from your 401 (k), however, can seriously affect your retirement savings. Therefore, experts recommend it only as a last resort.
Before deciding to buy a home with your 401 (k), consider the low and low down payment mortgages available today.
Many people can buy a home with as little as 3% or even 0% less. So there is a good chance that you won't have to use your retirement savings to make a down payment.
Check Your Mortgage Eligibility (September 23, 2020)
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Use Your 401 (k) to Buy a Home: Allowed but Not Recommended
You probably can't use your 401 (k) to buy a home in one package because there is a limit to the amount of money you can take out.
However, it is possible to use your 401 (k) to cover the down payment and closing costs of a home purchase.
We'll say right away that using your 401 (k) to buy a home is usually not the best method.
There are many alternatives to your 401 (k) for getting cash for a down payment – ones that don't have the same long-term effects as withdrawing money from your retirement savings.
You can find out about other ways to get cash for a down payment below.
However, you may have already considered all of your options and found that the money in your 401 (k) is the best way to get the cash you need to buy a home.
In this case, there are two ways you can access your 401 (k) funds.
You can take out a loan from your 401 (k) accountthat must be repaid with interestOr you just can withdraw the moneythat comes with a 10% penalty and income tax
Here are the pros, cons, and rules for each method.
Review your eligibility to buy a home (September 23, 2020).
How to Use a 401 (k) Loan to Buy a Home
A 401 (k) loan is the preferred method when you need to use your retirement savings to buy a home. This is because there is much lower cost associated with a 401 (k) loan than there is with a withdrawal.
A couple of other advantages are:
A 401 (k) loan usually does not count towards your debt-to-income ratio. This doesn't harm your chances of getting a mortgage401 (k) credits are not reported to the credit bureauSo if you apply for one, it won't harm your credit score
Unlike a 401 (k) payout, a 401 (k) loan is not subject to a 10% early withdrawal penalty. And the money you get is not taxed as income.
The rules for using a 401 (k) loan to buy a home are as follows:
Your employer must allow 401 (k) loans under their retirement plan. The maximum loan amount is 50% of your 401 (k) vested balance or $ 50,000, whichever is less. The loan must be repaid with interest (usually the base rate plus 1-). 2%), on a schedule agreed between you and your 401 (k) provider, you typically cannot make 401 (k) contributions while you have an outstanding 401 (k) loan
401 (k) loans typically have to be repaid over a period of 5 years.
However, if the money is being used to buy a home, there is usually an extended period of time to pay it back. The rules vary depending on the 401 (k) company. So please contact your company for more information.
Cons of 401 (k) Loans for Home Buying
The catch here is that while the 401 (k) loan is being repaid, you will typically not be able to contribute to your retirement account. And that means that your employer doesn't make any appropriate contributions either.
All in all, you could be missing out on pension contributions for 5 years or more – which is likely to cause a huge drag on your savings later in life.
If you leave your current business or are laid off while you have an outstanding 401 (k) loan, the repayment period will be shortened. In this case, you will have to repay the loan by the tax return date for the year.
For example, if you took out a 401 (k) loan on October 1, 2020 and then left your job on December 1, 2020, your entire loan must be repaid by April 15, 2021.
If your 401 (k) loan is not repaid by the due date, the remaining balance will be treated as a 401 (k) payout. So it will likely be taxed as income and penalized with a 10% penalty.
Using a 401 (k) Payout to Buy a Home
401 (k) withdrawals are generally not recommended as a means of buying a home because of the high fees and penalties that apply to 401 (k) loans.
If you make a 401 (k) withdrawal before age 59, you will need to pay:
A 10% "early withdrawal penalty" for the removed funds. Income tax on the funds removed
For example, let's say you deduct $ 20,000 from your 401 (k) to cover your down payment and closing costs.
You will be charged a $ 2,000 early withdrawal penalty. On the $ 20,000, you'll have to pay income taxes, which will likely range from $ 4,000 to $ 6,000
That's around $ 8,000 that was deducted from your retirement assets on top of the initial payout.
The standard rules for 401 (k) withdrawals are as follows:
Most 401 (k) plans only allow withdrawals in cases of financial "need". However, a 401 (k) withdrawal to buy a home is usually acceptable. You can only withdraw as much money as is necessary to meet your immediate needs
Under CARES, you may be able to withdraw up to $ 100,000 from your 401 (k) No 10% penalty. If so, you can choose to pay income tax on the money in the same year or over the next three years. The current CARES Act rules allow unpunished 401 (k) withdrawals until the end of 2020. The rules vary by employer and are subject to change.
Should you be using your 401 (k) as a first-time buyer?
House prices just keep rising – which means it can be very difficult to save the down payment required to buy your first home.
But, as a first-time buyer, taking money off your 401 (k) to buy a home may not be your best option.
First-time buyers are often at a key age to make pension contributions. The more money you invest at a young age, the longer you have to pay interest.
By taking money out of your 401 (k) to buy your first home, you can seriously reduce the amount of your savings when you are ready to retire.
Say you have $ 30,000 in your 401 (k) by the age of 30After 25 years at 7% interest, that $ 20,000 has grown to $ 162,800 But you're taking out $ 10,000 to pay a down payment on your first home. Now, by the age of 30, your 401 (k) is $ 20,000. After 25 years at 7% interest, it has grown to $ 108,500So a withdrawal of $ 10,000 means $ 54,000 less in your retired 401 (k)
This does not mean that a 401 (k) loan or withdrawal is always the worst option.
Before moving on to your retirement savings, however, consider all of the other avenues available to first-time beginners (or repeat buyers) to purchase a home.
Review your eligibility to buy a home (September 23, 2020).
Alternatives to Using Your 401 (k) to Buy a Home
Many home buyers assume they will need a 20% down payment, which makes it almost impossible to save enough money to buy a home.
But home buyers no longer need 20%.
In fact, there is a long list of low and no down payment home loans that can lower the barrier to home ownership.
Some of the most popular low down payment mortgages are:
FHA loan Allow only 3.5% less and all you need is a 580 credit scoreConventional 97 Loans Start at 3% and you need a credit score of 620+VA loan are available to veterans and service members with a 0% discountUSDA loan can be used with 0% less in certain rural areasHomeReady and Home Possible Loans require only 3% less and have flexible requirements for first time buyers who are low on money
But what if you don't have a 3% deposit? After all, 3% of $ 300,000 is $ 9,000 – that's still a lot of money.
If you need help with the deposit, there are other locations to contact before your 401 (k). For example:
Find deposit support programs in your area. DPA programs are available in every state. They offer grants and low-interest loans to help home buyers meet their down payment and closing costs. If you need help buying a home, the first thing to do is contact DPA
Look for mortgage lenders who can offer help with down payment or closing costs. Some lenders offer special programs that offer credits to cover part of your down payment and / or closing costs. You can find some examples in our list of best lender for first time buyers
Seek help from a relative or family friend. Some home loans allow you to cover all of your down payment and closing costs gifted moneyalthough this must be properly documented
Most of these programs are specifically designed for low income or lower credit home buyers.
If you're having trouble saving for a down payment for any of these reasons, there's a good chance you will qualify.
Do You Qualify for a Mortgage Without a 401 (k) Fund?
With such a wide range of mortgage options and down payment help in the market, most people just don't have to tap their 401 (k) to buy a home.
Additionally, today's low mortgage rates increase your home buying power by reducing monthly payments. It's easier than ever to afford a home.
Before you take any money out of retirement, you should use your current savings to determine if you qualify for a mortgage. You might be surprised.
Check your new plan (September 23, 2020)