Last Updated on April 30, 2023 by Eric Jeanette
First Time Home Buyer 401k Withdrawal
First time home buyers often struggle with finding the funds needed to purchase a home. You may be able to withdraw funds from your 401k to help purchase your home.
Can you withdraw Money from Your 401k to Buy a House?
You can withdraw money from your 401k to buy a house but you may pay a penalty for withdrawing the funds, interest, and even taxes. Each type of mortgage will have its own rules on how much you are permitted to withdraw.
Below, we will take you through each of those mortgage options and what it will mean for you.
Should First Time Home Buyers Withdraw from their 401k to Buy a House?
A 401k retirement fund is something that should be protected, and in most cases, not used as a piggy bank. There is a saying that you can always get a loan to pay for things along the road of life, but when you get towards the end, there are few loans available to pay for retirement.
If you are able to withdraw money from your 401k to purchase your first home, then do so with the promise to yourself that you will replace the money over time. Keep in mind, the money that you draw from your 401k may cost you a lot more than what you think.
- First, you may pay a penalty for withdrawing the money and that penalty could be significant.
- Second, you may have to pay taxes on what you take out if the money went into your 401k pre-tax. This is something you would need to speak with a tax advisor or accountant about.
- Third, you may be missing out on any gains you potentially would realize if you left the funds in the account.
Financial experts would suggest you look for another way to purchase your first home without withdrawing anything from your 401k.
First Time Home Buyer 401k Withdrawal Options
When it comes to pulling money out of your 401k to help purchase a home, you really have just two options:
- Withdraw the Down Payment from Your 401k Account – This option would have the greatest potential for a penalty or tax implication. You will need to find out what penalties exist within your 401k plan and also speak with a tax advisor.
- Obtain a 401k Loan – This would be the preferred option because it has a path to replacing the money into a well needed retirement fund. The rules and interest rate would vary depending upon your 401k plan.
If you are able to borrow against your 401k in the form of a loan, you are simultaneously protecting the future value of your retirement fund.
Mortgage Rules on Using 401k Withdrawal Funds
Fannie Mae guidelines for conventional loans permits the vested amount within your 401k to be used towards the purchase of a home. The withdrawal amount can be used for your down payment, closing costs, or both.
After withdrawing the funds needed for your down payment, the remaining balance can remain in your account and can be counted towards your reserve requirements.
If your withdrawal is a loan against your 401k, the monthly payment will be used as monthly debt when qualifying for a mortgage.
When using an FHA loan, 60% of the 401k value can be used as part or all of your down payment when purchasing a home.
If your plan permits you to withdraw more than 60%, you would need to provide proof and the amount would need to be net of withdrawal penalties and taxes.
Another benefit is the remaining balance of your 401k account can be used towards any reserve requirements.
VA loans do not require a down payment which under normal circumstances would prevent you from having to withdraw money from your 401k. However, you potentially could use funds from your 401k to cover the funding fee or even as collateral against any reserve requirements.
Although VA loans do not require a down payment, if your credit scores are extremely low, the lender may actually ask for a down payment. This is likely where tapping into your 401k can help.
It is important to note that lenders have the ability to overlay their own requirements which may not be found in the VA underwriting guidelines.
USDA loans, like VA loans do not require a down payment. Therefore, you would likely use the funds from your 401k for closing costs.
If you are applying for a USDA Rural Development mortgage, you are permitted to use 60% of the vested balance of your 401k towards your down payment.
This is the same as the FHA loan requirement and since both are government backed mortgages, that may explain why they are the same.
If you are a first time home buyer who is looking to purchase a home with limited funds, then let us help you. Withdrawing money out of your 401k is not the only way to make this work and there may be other options available to you.
Alternatives to Withdrawing from Your 401k to Purchase a Home
Withdrawing money out of your 401k should be considered when you have run out of all other options. In addition to purchasing your first home, your goal should be to protect your 401k and other retirement accounts. Some alternatives to withdrawing from your 401k are as follows:
Down Payment Assistance – There are many down payment assistance programs in every state and in some local communities. You can apply for one of these programs and possibly secure the money you need to help purchase your first home.
Gift Funds – Most mortgage programs permit family members to provide you with the down payment in the form of a gift. The funds that you receive are a gift and not a loan. Read [FHA Gift Fund Requirements]
Seller and Lender Credits – It may be possible to receive a seller credit or a lender credit at closing. These funds cannot be used towards the down payment, but they can cover all of your closing costs. Read [FHA Seller Concession Rules]
The following articles will also provide you with additional information needed to gain a full understanding about your options.