Should I Use the Cash In My 401k Account For A Down Payment On A House?
by Erik Folgate
Filed under Investing
I need your help. I think I know the answer to my own question, but I have the luxury of interacting with over 25,000 people per month on this site. Do you think it would be wise or unwise for me to take the money in my 401k account and use it for a down payment on a house? We are planning to buy in the next two months. I normally advise people that it’s a horrible idea to borrow from a 401k account. A 401k should be something that you contribute to regularly and forget that it’s there.
But, I won’t get penalized if I borrow from it, and the interest will go back into the account once I pay it back. We could pay it back in about three months. The only money that I will lose is the earnings while the money is gone, but my account has sucked lately, because the market has tanked from rising gas prices.
You might be saying, “Why not just wait a few more months and save the money?” I would say the same thing if someone presented this scenario to me, but the cost of renting with a short-term lease and moving twice would far outweigh the interest that I would pay from the 401k loan. We are moving to Orlando, so we would need to move twice if we rented first and then bought a house. What do you think I should do?
Absolutely do not do this.
Realize that the interest you are “paying yourself” is taxed TWICE:
1) It was taxed as income when you made it
2) It will be taxed again when you withdraw it in retirement.
Don’t do it. Having to withdraw from a 401k is the number one sign you can’t afford a house yet. If more people would have listened to these signs, we wouldn’t be in this mess we’re in right now.
Yes, I figured that I was wrong to be thinking about doing this. I just needed some confirmation.
We definitely don’t want to get into a house that we can’t afford, but we just don’t want to make a long distance move, rent, and then buy a year from now. We’ve been moving from rental to rental every year for the past 4 years.
> but we just don’t want to make a long distance move, rent, and then buy a year from now
Why not?
I mean, if it’s a personal preference (avoiding the pain of physically moving twice), then fine. But financially, there is certainly nothing wrong with continuing to rent while you build up financially to buy.
Certainly in this housing market there is no shame in renting.
By the way, I know I bust your chops all the time about your position on credit cards all the time … but since I’m here, it’s obvious I enjoy your blog, so keep it up.
I would never borrow from the 401k. Everyone’s 401k’s suck lately, but you are in this for the long haul! Please restist this urge. I understand wanting to buy now but I would wait until I had the money.
Secondly, wow you are moving to o-town, is this because of a job or you just want to live there? Shawn and I will be there in September to celebrate our 4th anniversary, maybe we can stop by! :-)
Well, I tell you. My knee-jerk reaction when I first read the question is, “Absolute, Positively, NO!” In fact, I personally would not do this.
However, since today is a slow day, I thought perhaps I’d play Devil’s Advocate a bit. So, I gave it a bit more thought and here’s what I am thinking:
1. You are still going to be taxed one time for your 401k contributions. So, to me, leveraging a loan is a separate matter.
2. As far as loans go, is it truly any worse than holding down a traditional mortgage? Off-hand, I would say not, especially if you can get a better financing this way. 401k loans have some of the best rates out there simply because the loan is secured against your nest egg.
In fact, to put this thought experiment to rest, I have friend who is a financial analyst, and she has done this. Sure, it’s a bad idea to have any loan, but if you must have one, why not leverage the best rates and terms available? That’s what she did.
To take it a step further, I will most likely take money out from my Roth IRA for my next home purchase. Yes, it sounds so wrong, but I also max my 401k each year strictly for retirement. Plus, saving and investing through a Roth is much better than simply running out to get a mortgage.
In conclusion, while I still agree with the consensus that this is most likely a Bad Idea, I do think this option deserves at least some serious consideration.
As long as you BORROW and don’t withdraw the funds, it can be a
useful tool. Moving is expense and exhausting and so I see your
point. I borrowed from my IRA years ago, before 401Ks and it was
just what I needed at the time. Paying it back takes discipline, which
I think you have.
Have you checked with your mortgage consultant to see if borrowed funds from your 401k are acceptable for the down-stroke?
In most cases you should never withdraw from your retirement savings. But, if that’s the only way you’re going to be able to buy a bigger place and you can pay it back within 3 months, then do it. Really, the amount of money you’ll lose on lost interest is probably relatively small and you need to move… which is more important; a new place, or colelcting a few dollars in interest?
(this only applies if you will DEFINITELY return the money to your 401K within 3 months)
PS: I found your blog a couple weeks ago. It’s awesome!
@J – yeah, it’s more of a personal preference than a financial one. We’re kind of sick of renting for the non-financial reasons. We want a family soon and there’s less safety in most apartment complexes.
also, i don’t mind that you dissent my views on credit cards at all. You always back up your position and you’re not a jerk about it. I love debate that’s not ridiculous, hehe.
@Jacqui – yeah, i should resist it. But, i really think i’ll be able to pay it off before January.
@L – thanks for the advice from personal experience!
@mike – i’m glad you enjoy the blog!