These are questions more homebuyers should be asking before they move money out of their retirement account.

I speak with many buyers who are in an interesting position: they have substantial money saved in their 401(k), but they don't have as much cash available for a down payment, closing costs, repairs, improvements, or simply keeping enough reserves after buying the home.

One of the first things I tell them is:

Before you withdraw money from your 401(k), find out whether your plan allows you to borrow against it.

There can be a BIG difference.

Option #1: Withdrawing Money From Your 401(k)

Let's say you need $50,000 to help purchase a home.

If you simply withdraw $50,000 from a traditional 401(k), that money may be considered taxable income.

And if you're under age 59½, you may also face an additional 10% early-distribution tax unless you qualify for an exception.

So the real cost of getting your hands on that $50,000 could be considerably more than $50,000 once federal and state taxes are considered.

There's another cost people sometimes forget.

That $50,000 is no longer in your retirement account working and potentially growing for your future.

That's why I don't like seeing buyers automatically pull money out of a 401(k) without first looking at the alternatives.

Option #2: Borrowing From Your 401(k)

Here's where things get interesting.

Many employer-sponsored 401(k) plans allow you to borrow against your retirement account instead of permanently withdrawing the money.

Federal rules generally limit a 401(k) loan to the lesser of $50,000 or 50% of your vested account balance, although there are specific rules and exceptions and your employer's plan determines whether loans are offered at all.

When properly structured under your plan, a 401(k) loan generally isn't considered taxable income when you receive the money.

Instead, you're borrowing the money and then repaying the loan through your 401(k) plan.

And here's the part I think many people don't realize:

The interest you're paying on the loan generally goes back into your own 401(k) account.

You're still borrowing money and paying interest, but you're not simply paying that interest to a bank.

Can I Use a 401(k) Loan for a Home Down Payment?

Potentially, yes.

Depending on your particular plan and mortgage financing, buyers may consider 401(k) funds when they need additional money for things such as:

• Increasing the down payment

• Closing costs

• Improvements or repairs after purchasing

• Maintaining more cash reserves

• Creating a stronger overall home-buying strategy

For someone who has accumulated substantial retirement savings but is temporarily short on available cash, this can be an option worth investigating.

That does not mean borrowing from your 401(k) is always the right decision.

It means you should know the option exists before automatically taking a taxable withdrawal.

How Long Do You Have to Repay a 401(k) Loan?

Most 401(k) loans generally must be repaid within five years, with payments made at least quarterly.

However, there can be an important exception.

If the loan is being used to purchase your principal residence, your employer's plan may allow a repayment period longer than five years.

Every employer's plan is different.

That's why you need to check the actual terms of your 401(k), not what your friend, coworker or Google told you. 😊

What's the Catch With Borrowing From Your 401(k)?

There are definitely things to consider.

A 401(k) loan isn't free money.

The money you borrow may no longer be invested in the same way while the loan is outstanding, which means you could potentially miss investment gains.

There is another very important issue:

What happens to the loan if you leave your employer?

Depending on the plan and circumstances, leaving your job can affect how the outstanding loan must be handled.

If the loan isn't repaid according to the applicable rules, the unpaid amount could ultimately be treated as a taxable distribution. Depending on your age and circumstances, additional taxes may also apply.

So this is not something I recommend doing casually.

Should I Borrow From My 401(k) or Withdraw the Money to Buy a House?

There isn't one answer that works for everybody.

But if you're considering using retirement funds to purchase a home, I would not automatically request a withdrawal.

First, call your 401(k) administrator and ask:

"Does my plan allow 401(k) loans? How much can I borrow? What is the interest rate? What are the repayment terms? And are the terms different if I'm using the money to purchase my primary residence?"

That phone call could make a significant difference.

Then talk with your lender, CPA or tax professional, and financial advisor before moving the money.

One More Thing: Talk to Your Lender BEFORE Moving the Money

This is especially important.

If you're buying a home, don't start transferring large amounts of money between accounts without discussing it with your mortgage professional.

Your lender may need documentation showing where the funds came from, and the 401(k) loan payment may also need to be considered as part of your overall mortgage qualification.

I would much rather help a buyer figure out how much money they actually need before they start pulling money from retirement accounts.

Maybe you need $50,000.

Maybe you only need $20,000.

Maybe we can negotiate a seller credit toward closing costs.

Maybe there's a financing strategy that allows you to keep more of your money invested.

Figure out the entire home-buying strategy first. Move the money second.

That's the conversation buyers should be having.

Thinking About Using Your 401(k) to Buy a Home in Santa Clarita?

If you're considering buying a home in Santa Clarita, Valencia, Stevenson Ranch, Saugus, Canyon Country, Newhall, Castaic or the surrounding areas, and you're trying to figure out the best way to structure your cash, down payment and financing, reach out to me before you start moving money around.

I'll help you look at the real estate side of the equation and coordinate with your lender so you can understand how much cash you actually need.

Sometimes buying the right home isn't about having more money.

It's about knowing how to use the money you already have.

This information is for general educational purposes only and is not tax, legal, investment or financial advice. 401(k) rules and employer plans vary. Always consult your 401(k) plan administrator, CPA/tax professional, financial advisor and mortgage lender before withdrawing or borrowing retirement funds.

Mariness Chata
RE/MAX of Santa Clarita
Call/Text: 661-317-3332
RealtorMariness@gmail.com