Using Your 401k to Finance a Mortgage Down Payment

Using Your 401k to Finance a Mortgage Down Payment

401k to Finance Your Mortgage Down Payment

Are you having trouble figuring out how you will finance the down payment for your home? Have you been looking for down payment assistance? Some people are reaching into their 401k retirement accounts as means for down payment assistance. It is important to understand the different options and what they entail. Rules and regulations may vary depending on your company’s plan.

Hardship Withdrawals

Typically 401ks are only available for withdrawal if you quit your job, retire, or become disabled; however, some companies allow “hardship withdrawals” for those with immediate financial need. This usually includes use for the down payment or purchase of your primary residence.

This option does have its drawbacks. First, you will be charged taxes and penalties on the amount withdrawn, which are often required to be repaid within a year of the transaction. First time home buyers are exempt from a 10% penalty, as are those over 59 1/2 years old. Second, the money withdrawn will no longer be earning interest which will affect the long-term growth of your account. When retirement rolls around, you could be sorry. Lastly, you will be repaying a portion of the loan with after-tax dollars, meaning the additional interest going into the account will be taxed twice (once at the time of contribution and again when funds are withdrawn at retirement).

Loan

Another option is to borrow against your 401k to use towards your down payment. Many companies allow employees to borrow as much as 50% of the current balance, but a minimum loan of $10,000 is generally required. The funds you receive are not taxable and the prime rate plus 1% interest you pay on the loan will go back into your account. And because you are essentially borrowing money from yourself, no credit check is required.

There are risks involved with borrowing against your 401k as a source of down payment assistance. If you leave your job or lose your job, the loan must be repaid in full within a specified time period (usually 60-90 days). If the loan is not repaid within that time frame it is considered a withdrawal and taxes and penalty fees will be applied . Additionally, 401k loans usually have short term paybacks with high monthly payments.

Before dipping into your 401k savings for a down payment on your home, consider all of the advantages and disadvantages. In certain situations, using funds from your 401k for down payment assistance may be the most ideal option. But if you’re not careful, the decision to borrow may have negative consequences.

Have You Exhausted All Other Sources of Cash?

There are alternatives to fund your down payment. You may qualify for federal, state, or local down payment assistance. See which down payment assistance programs are offered in your area. In addition, you may want to research loans that offer no money down. An FHA mortgage loan allows you to borrow up to 97% of the home value with the remaining 3% paid for by gifts. VA loans and USDA loans offer no money down for those who qualify.