Should You Ever Borrow From a 401(k) for a Home Down Payment?

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Wooden figure of white house and keysIn our “Ask a CFP®” Q&A series, we cede the floor to a CFP® to address some of the trickiest money topics out there.

Today, Tom Gilmour, CFP®, a financial planner at LearnVest Planning Services, explains whether it’s ever wise to pull money from a 401(k) in order to purchase a home.

Retirement and homeownership. As a financial planner, these are two of the most common savings goals for my clients.

The only problem? Juggling both can be tough.

Thanks to fewer pensions and shrinking Social Security, it’s increasingly falling on individuals to fund their own golden years through savings vehicles like 401(k)s — but homeownership can also be an important future investment.

And now that the spring home-buying season has arrived, many people will no doubt be wondering if it’s ever a good idea to borrow from a 401(k) for a home down payment.

Why So Many People Ask This Question In my conversations with clients, this is often phrased as, “Can I take a loan from my 401(k), and pay it back later?”

Translation: Although most people realize they shouldn’t be dipping into their retirement account, they tend to view borrowing from a 401(k) as somewhat O.K.

And I get it. A nest egg can feel like money that’s just sitting there — doing nothing — while homeownership is a more pressing goal.

What I Tell Them There are several reasons why I strongly caution against using ‘tomorrow’ money for today.

For starters, when you withdraw early from a 401(k), you’re going to miss out on the benefits of compound growth.

There’s also the fact that many companies have a 60-day repayment requirement in place. This means that if you take out a 401(k) loan, and then leave your employer, you’ll only have 60 days to pay it all back.

That’s a tough time frame to swing — especially if the money is tied up in a new house.

What’s more, withdrawing from a 401(k) can become addictive. One Fidelity study of so-called ‘serial borrowers’ found that once you take out one loan, you’re more likely to do it again — and again.

My advice? Don’t let homeownership aspirations drain your nest egg.

Instead, consider opening up a high-yield online savings account and nickname it ‘Dream House.’ Even though it’ll take you longer to save up enough for a down payment, you’ll be doing yourself a favor by not compromising your retirement well-being.

RELATED: Buying a House: How Much Can You Afford?

LearnVest Planning Services is a registered investment adviser and subsidiary of LearnVest, Inc., that provides financial plans for its clients. Information shown is for illustrative purposes only and is not intended as investment, legal or tax planning advice. Please consult a financial adviser, attorney or tax specialist for advice specific to your financial situation. LearnVest Planning Services and any third parties listed, linked to or otherwise appearing in this message are separate and unaffiliated and are not responsible for each other’s products, services or policies.

  • bob

    Bad advice. The earlier you own a home, the more appreciation and tax savings you will earn. Far out weighs a 4% loan from 401.

  • K

    I agree that it is unwise. This article doesn’t even take into account the extra taxation you are faced, which is another downside. You take out the money for the loan and are taxed, then you are repaying the loan with after-tax dollars, then once you take all that money out again at retirement (repayments included) you are taxed. Not an efficient use of your money.

    • Amanda V

      K, you’re not taxed on the money you take from your loan. You pay “interest” but it actually goes right back into your 401K account. Is that what you mean by taxed?

      And in my case, I have a 9 month payback plan (I will use my bonus in December to pay the loan back in full). For my situation, using a 401k loan was a wise financial decision.

  • Amanda V

    I just bought a house a month ago and borrowed $8k from my 401k for my down payment. I decided to utilize the money for multiple reasons:

    1) The market in my area is steadily rising and if I waited a few extra months to save the 8K the house I was eyeing (or similar homes) could be more expensive.

    2) I’ve decided to utilize my bonus at the end of the year to pay back my 401k loan in full.

    3) I didn’t take out more than I needed to and I can pay back the 8K in a couple of months should I lose my job or leave my employer before the end of the year.

    4) the benefits for my particular situation far outweighed the risks.

    I think for Millennial homebuyers who are itching to stop renting, have their finances in order (except for their downpayment), and are looking to buy an affordable home, I think utilizing the 401k loan is a great idea.

  • Tony

    I think it depends on one’s situation–though one think carefully before and when doing it and make certain you have all your financial ducks in a row otherwise.

  • anon

    What about using a 401(k) as a short term loan when buying and selling at the same time? I have more than enough equity in my current home to cover the down payment in a new home. However, due to the market in my area, a simultaneous buy and sell is not looking like a possibility (we already have to compete with all-cash offers, so an offer contingent on selling my current residence will not be looked upon favorably). I have enough cash on hand to comfortably pay for half of a down payment (while still having enough for an emergency fund and to cover moving expenses, etc,). A loan from my 401(k) could get me the other half. That way, I could make a “clean” offer without contingencies regarding selling my current residence, move, sell my former residence shortly after, and easily pay back my 401(k) loan in one fell swoop. Is there any major downside to this option?

    Edited to add: I understand there is a risk my former home doesn’t sell for as much as I had hoped. But even with conservative estimates, I would have more than enough to pay back the loan.

    • Jason Lampert

      Are you letting FOMO push you into taking a substantial hidden risks? Let’s say you buy the new house using some of your savings and the 401(k) loan, before selling the old house. As you’ve mentioned you’re now under severe cashflow pressure to dispose of the old house. Now imagine a tornado tears through your town. Fortunately it doesn’t destroy either of your houses, but your workplace isn’t so lucky. So your old house probably doesn’t sell right away, your new house is worth less than you bought it for, and you’ve lost your job (cause bad stuff never happens in threes). You generally have 60 days to repay the entirety of the 401(k) loan before it becomes a taxable disbursement(with huge penalties). You have to pay: PITI on two houses, and the 401(k) loan repayment on with only unemployment insurance for income. Admittedly a tornado is farfetched, but houses do fail to sell, and people do lose their jobs at inconvenient times.
      Could you sell the old house BEFORE taking on additional debt to buy something new? You might consider the temporary housing/storage costs as the price of knowing your risk/cash position before taking on debt obligations, and insurance against a horrible cash crisis.