Can I Borrow from My 401(k) for a Down Payment on a House?
Owning a home has long been considered the great American dream. But for many people who live from one paycheck to the next, saving for a down payment is a big barrier to homeownership. What you may not know is that if you have money saved in an employer-sponsored 401(k) retirement plan, you may be able to essentially borrow from yourself to come up with a down payment.
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Usage
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The money saved through a 401(k) plan is meant to stay untouched until a worker retires. However, the Internal Revenue Service allows employees to take out money from their retirement plans under several conditions. One of those is a hardship withdrawal. Taking out money for the down payment of a primary residence is allowed under this withdrawal category. Additionally, employers often allow employees to borrow against their accounts. Those employers that allow this usually make loans for the down payment of a home and give account holders five years to repay the loan. However, some also set other guidelines, such as not having owned a home in two years, for those wishing to borrow against their accounts for a home down payment.
Benefits
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The main benefit of borrowing from a 401(k) account to pay for a down payment is that you can get the money you need faster than you could save it. It generally takes no more than a couple of weeks to get money from a 401(k) account. Plus, you're essentially borrowing from yourself, rather than owing someone else money.
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Negatives
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You will have to pay taxes and penalties on the money you borrow through a hardship withdrawal, even though it's your own money, notes the Mortgage Professor website. You can also borrow against the balance of your account if your particular 401(k) plan permits it, although you'll have to pay back the money, plus interest, notes the MKE Mortgage website. A far greater cost you'll incur over time is the amount of earnings you forgo by taking out money from your account. For instance, if your funds are earning you 6 percent, each dollar you withdraw will be one dollar less on which you will be earning 6 percent.
Risk
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Borrowing from a 401(k) can be risky. If you lose your job or change employers, the loan must typically be paid back in full within 60 days, even if you had a repayment period of as long as five years, according to the Mortgage Professor. If it's not, the IRS treats it as a withdrawal, in which case you'll be liable for additional taxes and fees. If you change jobs, retirement accounts can typically be rolled over to the new employer, but loans cannot be.
Considerations
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Deciding whether to borrow from your 401(k) plan to fund a home down payment should depend largely on the cost of doing so versus the cost of other alternatives, such as taking out a second mortgage or paying for mortgage insurance (lenders usually require this when home buyers are putting less than 20 percent for a down payment). Calculate how much the 401(k) will cost you, both in fees, taxes and penalties, then compare that to the cost of a second mortgage or the cost or mortgage insurance.
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