22 November 2019

Should You Tap Your 401(k) to Buy a House?

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Given the gains workers have seen in their retirement plans and in home prices in recent years, it makes sense that they would consider tapping their 401(k) accounts to buy homes. And that is exactly what a growing number of workplace savers are doing, according to a new study from Fidelity Investments.

The investment firm said workers who borrowed from their 401(k)s for home purchases tended to borrow more - $23,500 on average - and could be putting themselves at risk of reducing or stopping their retirement contributions.

To be sure, cash-poor workers who borrow to the max to buy a house can get into trouble quickly if they don't have the reserves to handle emergencies. And a worker who borrows from his 401(k) and then leaves his job usually has to pay back the loan within a few weeks or face a big tax hit as he is forced to treat the loan as a distribution.

A well-timed loan from a 401(k) plan may help a home buyer qualify for a better mortgage and cut monthly housing costs. Here are some considerations.

WHEN TO DO IT 

Ironically, the best time to borrow against your 401(k) to pay closing costs or cover a down payment is when you can well afford to. Otherwise, you are stretching yourself to the point where you couldn't weather an emergency.

If you lose your job and couldn't repay the 401(k) loan, you would have to take that amount as a distribution. That would cost you income tax and a 10 percent penalty on the amount and it would also leave your retirement plan permanently lighter, as you wouldn't be able to replace that money when you got onto more solid ground.

WHAT WORKS BEST 

At the margin, a 401(k) loan could reduce your monthly costs for years to come. Mortgage borrowers who put less than 20 percent down are required to buy mortgage insurance, and that's not cheap.

A family with excellent credit putting $20,000 down on a $400,000 home would be expected to pay an extra $184 a month for that insurance, reports HSH.com, a mortgage research firm. Furthermore, a mortgage lender might not qualify you for a loan if you had to borrow the down payment from a parent or someone else, but would if you were just borrowing from yourself.

MATH WINS 

The math always wins. Some workers closer to retirement might find themselves retirement-plan heavy with their eyes on a retirement home. To buy it, they might have to sell investments and eat a sizeable capital gains tax. Or a younger worker who has made a lot on stock funds in their 401(k) in recent years might want to temporarily tap that money to establish themselves as a homeowner.

Click here to access the full article on Reuters. 

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