Q: Is it ever okay to take money out of my retirement account for a home down payment?
Tapping your retirement accounts should be a last resort when you’re exploring options for a home down payment. For starters, it can be expensive. Typically, when you take money out of your 401(k) or traditional IRA before age 59½, you’re assessed with a hefty 10-percent penalty—plus ordinary income tax.
One notable exception is that you can take a penalty-free distribution up to $10,000 from an IRA in order to purchase your first home. (If your spouse has an IRA, you can access up to $20,000 for a down payment and/or closing costs.) And the money must be used to buy or build the home within 120 days of the withdrawal. But you still have to pay income taxes on the distribution, so you’ll need to put aside enough to cover them—or you could end up in hot water with a large tax bill come April.
Another option is taking a 401(k) loan, as some plan sponsors allow this. However, you may not be permitted to contribute until you’ve paid off your loan, which could take years. Usually, 401(k) loans must be repaid within five years—though you might get 10-15 years when using the money for a home—but if you leave your job, you could have to pay it back within 60 days. Otherwise, your loan balance gets treated like an early distribution, and is subject to the penalty and income taxes.
Worst of all? In each of these cases, you’re missing out on potential gains that money could be making if it were invested. So before you tap your retirement account for a home purchase, ask yourself, “Is this worth compromising my future financial security?”
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November 22, 2016