You Can Use Your IRA to Buy a Home−but Should You?

by Steve CookApril 3, 2018

You can access your retirement account, whether it is an IRA or a 401K plan, for the hard cash you need to make a down payment on a home, but there will be costs. Most plans will penalize you if you withdraw funds before you reach the age of 59 and a half. You will also be required to pay income tax on the funds you take out.

Are you better off in the long run buying a home now even though you have not saved enough for a down payment and have to access your retirement savings, or should you wait until you have enough to make a down payment, even if it takes a year or more?

These days both mortgage interest rates and home values are rising steadily, putting pressure on first-time buyers to get into a home as soon as they can, even if it means taking some money out of a 401K or IRA. On the other hand, when you take money out of a retirement account, you are losing the future income that those invested dollars will earn. The younger you are, the more potential investment growth you will lose when you tap your retirement fund.

Also, consider your situation and be honest with yourself. Are you a disciplined saver who will restore those lost dollars as soon as possible, or not? Are you making enough money to pay a mortgage and the other expenses of homeownership, and also repay your retirement fund? Will you be in a better financial situation in a year or two? If you cannot make a down payment without using retirement savings, are you sure that you are ready to become a homeowner?

Tapping your retirement account for a down payment should be a last resort. Check out other options first and you might find that you may not even need additional cash to close on your first home.

Don’t buy more house than you can afford

With affordable starter homes in short supply today, you might be tempted to spend more than you can afford. If you stretch your budget too far, you may have a hard time making monthly mortgage payments and handling the other costs of homeownership such as property taxes, upkeep, improvements, and emergencies. If you are not careful, you may find yourself and your family living on a “house poor” budget. Stick to your budget to keep your costs-including your down payment-under control.

Use a low down payment mortgage

These days first-time buyers are putting down 5 percent less, much less than the industry standard of 20 percent. First-timers can get low down payment loans from FHA, VA, Fannie Mae and Freddie Mac, and a growing list of mortgage companies, banks and credit unions as well as more than 2500 low down payment programs offered by local and state housing finance agencies. (Check out Down Payment Resource for information on low down payment options in your market)

Borrowers are required to carry mortgage insurance until their equity reaches 20 percent of the remaining principal. In competitive situations, many sellers will choose a cash buyer or a buyer who puts down 20 percent over a buyer with a low down payment loan. That’s because a borrower using a low down payment mortgage is less likely to have the cash available to make up the shortfall should an appraisal come in lower than the sales price. Finally, lower down payments result in larger mortgages, though the increase is relatively minor when spread over monthly payments for the life of a 30-year loan.

Get help from mom and dad

A recent survey found that three out of four first-time home buyers needed their parents’ help to afford the down payment, closing costs or other expenses. When added to savings, a small parental gift may be enough to make a down payment.

Take out a 401K loan instead of a disbursement

Most plans sponsored by employers today are 401K plans. If you have a 401K account, you can often borrow money from your retirement fund without incurring either a penalty or higher taxes. These loans are also interest-free. You don’t have to repay them until you leave your job, but the sooner you do so, the faster your retirement fund will grow.

Roth IRAs encourage homeownership

Roth Individual Retirement Plans allow first-time home buyers to take out a total of $10,000 for home acquisition costs over the life of the plan without risking a penalty. Because your contributions to a Roth IRA come from income that has already been taxed, you will not have to pay additional taxes when you take cash out of a Roth IRA.

In survey after survey, first-time buyers report that saving for a down payment was their most challenging barrier to overcome. Over the past three years, the shortage of affordable homes for sale in many markets has forced young families to put their homeownership plans temporarily on hold. Until inventories of affordable houses improve, first-time buyers will have more time to save and find ways to address the down payment burden without compromising their future retirement.

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About The Author
Steve Cook
Steve Cook is editor and co-publisher of Real Estate Economy Watch. He is a member of the board of the National Association of Real Estate Editors and writes for several leading Web sites, including Inman News. From 1999 to 2007 he was vice president for public affairs at the National Association of Realtors.