For many first-time homebuyers, saving up enough for a substantial down-payment can be the biggest barrier to buying their first home. Should you be considering your 401(k) account to fund your down-payment? Technically, it is allowed – but is it a good idea? Here’s a quick look at the details of tapping into your 401(k) for your next home, along with some better alternatives.
Your 401(k) account is a savings account reserved to help you prepare for retirement. When you contribute to this account, you can claim a tax deduction and watch your contributions accrue tax-free interest over time. To incentivize account holders to leave the funds to support a comfortable retirement, they are strictly limited until you are at least 59 ½ years old.
That being said, it is not illegal to withdraw money from your 401(k). If you’re still considering your retirement funds for a down-payment on a home, you have two options: borrow from your 401(k) or withdraw the funds.
401(k) Loans
Typically, borrowing from your 401(k) is typically the better option as you can avoid the early withdrawal penalties – but you do have to pay yourself back. Bear in mind that these repayments do not count as contributions. That means no tax breaks and of course, no employer match for the repayments. Depending on your plan provider, you may not be allowed to make further contributions at all while you repay the loan.
401(k) Withdrawals
If you’re considering a withdraw from your 401(k) account, you will technically be making a “hardship withdrawal” and will be limited to the amount necessary to satisfy your financial needs. You will likely incur a 10% early withdraw penalty and will still owe income taxes on the amount withdrawn.
Even if you are comfortable with the withdrawal penalties, using your 401(k) for a down-payment can result in long-term consequences to your savings, such as damaging your future growth potential. For example, taking out $10,000 from a $20,000 401(k) account leaves you with only $10,000 that will continue accruing interest. With a 7% annualized rate of return, that $10,000 could become $54,000 over 25 years – compared to $108,000 had you not withdrawn $10,000.
Alternatives to Tapping into Your 401(k)
FHA Loan
An FHA loan is a government-backed home loan that is insured by the Federal Housing Administration and is a great option for first-time homebuyers. With less-restrictive qualifications, such as lower down-payment options and credit score requirements, FHA loans are often a solid option for first-time homebuyers. Even if you’re required to pay private mortgage insurance each month, the few hundred dollars a month won’t be as detrimental as the tens of thousands you could lose withdrawing from your 401(k).
VA Loan
If you are an eligible service member, a veteran or the spouse of one, a VA mortgage loan is a much better solution than withdrawing from your retirement accounts. Much like an FHA loan, a VA loan is a government-backed loan with flexible terms, including a 0% down-payment option!
Whatever you decide, we recommend consulting with a Pulte Mortgage Loan Consultant before committing to any option. To get started, visit our website today!
