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You may be wondering whether you should consider using the money in your retirement account toward the purchase of a home. Before you decide, you need to be aware of the financial and legal considerations to take into account. The term for a 401(k) loan for home purchase is usually five years. The interest rate for 401(k) home loans is typically one or two points above the prime rate, which sits at 8.50% as of January 2024. This exception doesn’t apply to workplace plans such as 401(k)s. However, if you’re still working for the employer who provides the plan, you could consider taking a loan from your account.
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However, individuals can borrow from a 401(k), but there are rules and limitations surrounding the loan amount and the term of the loan. Assuming you are eligible to receive the distribution and the amount is rollover-eligible, you may instruct the 401(k) plan to process your distribution as a direct rollover to an IRA. This will ensure that the 20% federal tax withholding is not applied to the amount.
Savings
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Consider whether there are other options available before you borrow from a 401(k) to buy a home. Employees may continue to make 401(k) contributions after a withdrawal until annual contribution limits are reached. The U.S. Department of Housing and Urban Development (HUD) maintains a list of local home buying assistance programs by state. Your lender may also be able to suggest sources of home buying help in your area. Get matched with a lender that will work for your financial situation.
Buying Options
Along with the fee, you’ll need to pay income tax on whatever you withdraw from your 401(k). So, if you face a 20% income tax on top of the early withdrawal fee, your $10,000 withdrawal just becomes $7,000. You may have also heard that you can make a 401(k) hardship withdrawal to buy a house. The benefit of a hardship withdrawal is that it waives the early withdrawal fee. While this is an option if you become disabled or have medical expenses, the IRS explicitly says it’s not an option for home buying. Using a 401(k) to buy a home is unnecessary for most first-time buyers.
However, if you withdraw earnings on your invested contributions before age 59½, you must pay taxes on them. When you take out a 401(k) loan, you do not incur the early withdrawal penalty, nor do you have to pay income tax on the amount you withdraw. Typically when you withdraw funds from a 401(k) before age 59½, you incur a 10% penalty. This rule also applies if you use your 401(k) toward buying a house. Therefore, a 401(k) withdrawal for a home purchase may not be best for some buyers because of the opportunity cost.
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Bill in 1944, VA loans allow 100% financing with no mortgage insurance and at low-interest rates. VA loans are limited to active duty military, veterans, and surviving spouses. As you can see, home buyers have many options for getting the funding they need to buy a house.
Withdrawing 401(k) funds to buy a home
According to the IRS, first-time home buyers cannot withdraw up to $10,000 penalty-free from their 401(k) to purchase a home. 401(k) retirement plans are investment accounts with automatic tax breaks. The good news is that borrowing from your 401(k) is just one way to pay for your home. Let’s take a look at some of the alternative options and home loans.
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In fact, it’s most likely one of the largest purchases you’ll make in your lifetime. You may be tempted to make a 401(k) withdrawal for a home purchase, especially if you need to make the down payment. Let’s break down whether you should make a 401(k) withdrawal to buy a home and other alternatives. The employee is not obligated to repay or replace the cash withdrawn from the 401(k) account, but the IRS will recapture 10% of the amount withdrawn as part of the year’s federal tax filing.
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She holds a bachelor’s degree in journalism with an emphasis in political science from Michigan State University, and a master’s degree in public administration from the University of Michigan. If you do decide to use your 401(k) to buy a home, there are two options available. Make a cash offer now, and Orchard will sell your old home after you move. All Orchard Home Advisors are experienced agents who know your local market inside and out. We provide peace of mind that your home will sell, plus list your home on the market to maximize your earnings.
For many would-be homeowners, the down payment is the biggest barrier to buying a house. Find out how much housing, utilities, food, transportation, health care and taxes cost in the Show-Me State. The opinions, analyses, reviews or recommendations expressed in this article are those of the Blueprint editorial staff alone. The information is accurate as of the publish date, but always check the provider’s website for the most current information.
As mentioned above, this is the less desirable of the two options. Your 401(k) is an earmarked savings account created specifically to help you prepare for retirement. 401(k) holders can claim a tax deduction and will see their contributions to the account accrue tax-free interest over time.
However, just as with other loans, you must pay interest — usually between 1% and 2% — and you cannot contribute additional funds to your 401(k) account until you’ve repaid the loan. That means you will not be able to receive employer contribution matches, either, if your employer offers that perk. However, If you need to take a distribution from retirement savings, consider all of your options, including taking withdrawals from an IRA or delaying homebuying to save more cash. To use money in a traditional 401(k), you can take an outright withdrawal or a 401(k) loan. Which strategy is best for you will depend on a number of factors about your personal financial situation.
Starting in 2018, the tax overhaul extended the repayment time frame until the due date of your federal income tax return, which also includes filing extensions. You get the interest you pay on a 401(k) loan because you're effectively lending money to yourself. Keep in mind that the interest payments are made with after-tax dollars.
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