Should I use my 401k to purchase my 1st rental property?

Question

I currently have a stale 401k with my last company which I'm no longer contributing too and it's been sitting there for over an year. I have a new job and currently contributing to my new companies 401k plan. Would it be wise to use the stale 401k to fund my real estate investment? These funds would completely pay off the purchase. Should I withdraw the entire amount and take the tax penalty or take a loan against, if I can. Any advice would be greatly appreciated.

George Blower · Answer

@Curtis Woods

• If you are self-employed (i.e. active self-employment earned income separate from your w-2 income) with no full-time w-2 employees, you can set up a Solo 401k and then rollover your 401k funds once you leave your current job [NOTE: You generally can't rollover funds that you saved to your current employer plan until you quit.].
• You could then take a loan of up to 50% of the balance not to exceed $50,000. Please be sure to select a Solo 401k plan provider which allows you to take a loan and will prepare the required 401k loan documents.
• The repayment terms are equal monthly/quarterly payments (as you prefer) of principal and interest (e.g. prime + 1%) spread over a 5 year term (or longer if you will use the loan to purchase your primary residence).
• There are no prepayment penalties and no restrictions on what you can do with the proceeds of the 401k loan.
• Please note that you are obligated to pay back their 401k (regardless of the performance of your real estate investment).
• As an alternative to taking the loan, you could even purchase the investment property directly using funds in your Solo 401k (assuming you select a Solo 401k plan provider which allows you to invest in real estate). If you don't have enough Solo 401k funds to purchase the property as an all-cash deal, you can combine your Solo 401k funds with non-recourse debt to purchase the investment property. Learn more about non-recourse lenders here: https://www.biggerpockets.com/member-blogs/9552/70408-ira-and-solo-401k-non-recourse-lenders

Maggie Polisano · Answer

@Curtis Woods

Another option that you could consider is a self-directed IRA as @Jaysen Medhurst mentioned above.  You could rollover your old 401(k) into a self-directed IRA, then you could have the new SDIRA purchase the rental property. All expenses incurred by the property would be paid out of the SDIRA and all income like rental payments would flow back into the SDIRA. There are a couple rules regarding your involvement with the property when it is owned by the IRA.

I agree with many of the other replies, in that I do not encourage an investor to liquidate a retirement account for the purposes of investing in real estate when there are some options out there that allow you to keep your retirement account and invest in real estate. The penalties and taxes are also a very big draw back to taking an early distribution from a 401(k) - talk to your accountant and ask them to calculate what the taxes and penalties would be before making the decision.

Maggie Polisano · Answer

@Jingru Sui

Yes, you can rollover a Roth 401(k) over to a self-directed Roth IRA. Are you still employed with the same company that you have the Roth 401(k) with? Some 401(k) plans do not allow for an in-service rollover.

Does or did your employer have a match policy? Typically an employers match is contributed as tax deferred or Traditional, so it is possible your 401(k) may have both Roth and Traditional funds in it. It is important to note, if you rollover, you would need to set up 2 SDIRA accounts as a Roth can not directly receive traditional tax deferred funds.

In regards to the solo 401(k) do you own a business that pays you a salary? That is the primary eligibility factor to be able to set up a solo 401(k). If you are eligible, can you move your Roth 401(k) into a new solo 401(k)? Yes, you will need to ensure that you allow for a Roth component when you complete the 401(k) adoption agreement.

Jingru Sui · Answer

Thank you for your response!! My first company did match up but second one doesn't. I personally have an LLC but currently not paying myself salary but I can make it happen. Are you a specialist who can help me set it up? do you mind connect with me and we can talk through what the process look like? :)

Jonathan R McLaughlin · Answer

My bad for not being clear. Original post was "should I use the 401K?" and they got some good advice, but they also mentioned they had a roth, so I was thinking:

a withdrawal from a Roth would be the best way to access capital, only incurring minor taxes on the gains

and perhaps with the additional step of paying the taxes to remove funds from the 401K and putting those funds in the roth to withdraw prior to any rental purchase.

Yes you would pay taxes, but no penalty and it becomes a fairly cheap way to access money without the baggage of retirement account investing or using high interest rate hard money etc.

You are an expert in this space I see, so curious about your opinion

Maggie Polisano · Answer

@Jonathan R McLaughlin

I am not sure I understand your question entirely. Could you clarify your question about the Roth, I was speaking in regard to his question about a 401(k)?

Jonathan R McLaughlin · Answer

@Maggie Polisano why not just use the Roth to withdraw funds?At that point you are simply shifting investments with no penalty and you can avoid the considerable hassles for financing and purchasing (often underplayed only this board by users of the method) with that type of retirement account. I suppose you might pay some tax on the Roth gains, but it is unlikely to be burdensome

Jonathan R McLaughlin · Answer

A definite maybe. Loan if you can, especially if you are going to owner occupy, usually good (15 year) terms. Plans vary on repayment. Roth is a great source and tax negligible so that would be the go to. You may be able to plan a transfer to the roth from one of the accounts and have more funds available. Self directed IRA has some additional hurdles but another possibility.

It would be hard to imagine a situation where its worth paying the penalty but its possible if the deal is good enough.

Joe P. · Answer

I would argue this would depend on your goals.

If you're looking to buy an investment property, lets say for 25% down of a 250k property, and make about 200 bucks a month in CF? Absolutely not. That's a total waste of time to have a loan against your 401k.

Now if you are BRRRRing and can pay back your loan and keep some profit for yourself, and get a cash flowing property...maybe. I'd prefer to do a HELOC for something like that, though, because the rates are better and typically access to funds is easier and more straightforward, and usually the HELOC is interest only for several years, allowing you to truly rinse and repeat.

David Martin · Answer

@Curtis Woods Presuming your current 401k has loan provisions. Do a rollover of your old 401k in to your new employers plan, and then you can access it as a loan vs paying the tax hit. You might get limits on how much of it you can touch, depending on how big your current 401k is.

Should I use my 401k to purchase my 1st rental property?

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