Right now the median listing price for a home in the US is $430,300, and by the time you read this it will likely have climbed higher. For homebuyers hoping to put 20% down, that’s about $85,000 - not including closing costs. Even for homebuyers putting down the minimum of 3.5%, that’s still about $15,000.
Not surprisingly, plenty of people are wondering whether they can use their 401k to buy a house - because for many people, it’s the only additional savings they have, and it might represent a sizable amount of cash.
Can you use your 401k to buy a house - and more importantly, should you? Here’s what you need to know.
Can I Use My 401k to Buy a House?
Due to skyrocketing asking prices, first-time home buyers are often in more of a pickle than ever before. Not only would the average home buyer today need to fork over at least $15,000 as a minimum down payment - they'd also have to pay all the associated closing costs (which average about $7,000, but can be higher or lower depending on the home price and location) that come with buying a home.
The IRS allows you to withdraw without penalty if you are:
- Older than 59 ½ years
- Permanently disabled or otherwise unable to work
- Qualified for hardship withdrawal (see next section)
You always have the option of taking money out of your 401k - not just for a house, but for any reason or need. There is just a penalty if you're too young.
If you're thinking about using your 401k to buy a house after retirement, you absolutely can - without penalty.
If you're planning to withdraw before retirement, you typically lose money - because the government will charge you a 10% penalty tax if you’re under the age of 59 ½ years. And if you’re withdrawing from a traditional 401k (rather than a Roth 401k) it will be counted as part of your taxable income for that year (so if you make $70k as a salary and withdraw $20k, you'll be taxed as if you made $90k that year).
You should know, too, that if your employer has contributed funds, you may not be able to withdraw them all - it depends on whether your employer’s contributions have a vesting schedule, and how far along you are with yours.
What it looks like to withdraw $10,000 early from 401k without an exemption
So what will this look like if you decide to withdraw?
Let’s assume you plan to withdraw $10,000 from your account to help cover your down payment and closing costs: that means you’ll have to pay $1,000 in withdrawal fees, leaving you with $9,000.
If it’s a traditional 401k plan and your income for the year is taxed at a rate of 20%, that means you fork over 20% of $10,000, or $2,000 - leaving you with $7,000.
Overall, this decision isn’t too unusual. A 2019 survey by Bankrate found that 10% of polled homeowners had withdrawn money from their retirement accounts in order to pay for their house.
How Can I Use My 401k to Buy a House Without Penalty?
You might be wondering whether you qualify for the “hardship withdrawal,” which avoids the penalty charge. The hardship withdrawal allows people to withdraw money without paying the penalty - for reasons of medical debt, funeral costs, college tuition, etc.
Basically, it depends on the plan - some do allow first-time home buying purchases to count. You will need to examine the language of your employer’s specific plan. Keep in mind that in order to qualify for hardship withdrawal, you may need to show that you have no other funds to rely on (such as a savings account).
These are the needs that often qualify for hardship withdrawal:
- Medical expenses that are necessary for treatment and care
- Expenses related to purchasing a primary residence
- Educational tuition and fees for up to one year
- Expenses incurred to prevent eviction or foreclosure
- Costs associated with burial or funeral arrangements
- Specific expenses for repairing casualty losses to a primary residence (e.g. losses from fires, earthquakes, or floods)
401k first time home buyer: do you have an IRA?
For first-time homebuyers who don’t have access to as much equity, borrowing from their 401k might be the most reasonable option for a difficult situation.
If you have an IRA account, you’re in luck because they come with special provisions for first-time home buyers. You can withdraw up to $10,000 in order to buy a home without triggering the 10% penalty (though you’ll still need to pay state and federal taxes on the withdrawal).
Using your 401k to buy a house after retirement
The 10% penalty does not apply to homebuyers age 60 and up. So buying a home once you are around retirement age is, in fact, a way around the penalty.
Should I Use My 401k to Buy a House?
Now you know you can - but is it a good idea to use your 401k? The answer is: it depends.
Some financial experts advise against using your 401k to buy a home. Not only are you paying a sizable amount in fees, but your 401k exists for a reason. Because your 401k is invested for you, withdrawing money now isn’t the same as withdrawing that same amount later on. A $10,000 investment today, for example, can grow to about $34,000 in just 20 years.
However, your home is a source of future equity in itself, and that can’t be discounted - and you have to weigh the value of contributing to your own equity rather than paying off your landlord’s mortgage. It’s worth keeping in mind, though, that 401ks average a 5-8% return each year, while homes appreciate 3.5 to 3.8% a year (on average. Last year, homes are appreciating much more quickly than normal - but over your lifetime this number will probably be accurate).
The important thing to keep in mind is that your 401k is your equity, but it's not the same as a savings account. You need to take into account the penalties and taxes you have to pay.
So if you do opt to take money out of your 401k for your home, try to be as conservative as the situation allows - and if possible, increase your contributions afterward in order to make up for some of what you've withdrawn.
Drawbacks of using your 401k to buy a home:
- 401ks provide a higher average return than homes do
- Steep penalties for withdrawal may be impossible to avoid
- Early saving for retirement is essential for compound interest to occur
- Can create a higher tax burden for you that year
Benefits of using your 401k to buy a home:
- Get the home you want now
- You don't need to take out a loan or borrow money from anyone
- Avoiding home appreciation that would happen while you save up
- Get out of renting, start building your own equity
Borrowing from Your 401(k)
There's another way to use your 401k without getting penalized or paying taxes - and that's borrowing from it. In some cases, you have the option of taking a loan from your 401k. However, not all plans will allow this.
If they do allow it, then the loan has to be repaid within 5 years - and you’ll need to repay it with interest.
These loan payments will not count as contributions to your plan, which is important to keep in mind for tax purposes (normally, payments will lower your taxable income - so you might end up paying more in taxes that year).
“Borrowing from your 401k is an excellent way to obtain the down payment and closing costs that you need for your home purchase. In order to find out the value of your account and how much you are able to borrow, you will want to contact your 401k plan administrator,” recommends mortgage advisor Lisa Hunter. “They can discuss the figures and terms with you as well as answer any questions you may have regarding borrowing from your 401k.”
The drawback of borrowing from your 401k is that it comes with more limits than taking the money out. The most anyone can borrow is $50,000, but the actual amount you can borrow might be lower depending on the total vested amount. And if you lose your job during the repayment period, the loan will be immediately due - or go into default.
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