Borrow from 401k for down payment

10 Replies

I was looking to barrow $25K from my 401K.   Talking with a co-worker our 401K allows us to borrow up to 50% up to a certain dollar limit at 4.45%.     I was going to pull the $25K over 36 months paying $371 bi-monthly.

In Texas am I allowed to borrow against my 401K to use the money as a down payment for a rental property?     This would be for my second rental property.

You probably are allowed to do so. To confirm, you can simply call your 401K company and ask.

Just be sure the numbers work for you.

Good luck!

@Nick Weidner  

Whether a lender will be OK with the down payment coming from a 401(k)  will depend largely on their overall underwriting.  I do not believe there is a state law component, but there could be, so check with your lender.

A lot of folks here on BP tout the idea of a 401(K) loan for a property purchase.  The thing that is missed by most is the fact that the $25K loan will likely cost you in about $35K.  Is that worth it to you?

The issue is that while you do not pay taxes or penalties on the borrowed funds, you are replacing the pre-tax dollars in the plan with after-tax dollars out of your pocket.  In addition to the interest on the loan (which does go to the plan), you are effectively paying whatever your marginal tax rate is on top.  So, if your tax rate is 28%, that $25K will cost you $35K in new earnings to replace.

My firm markets Solo 401K plans that offer a participant loan. Some of our investors choose to use that loan provision.  But, we are always sure to point out this key fact about the true cost of that money. It is the right thing to do.

Originally posted by @Nick Weidner :

I was looking to barrow $25K from my 401K.   Talking with a co-worker our 401K allows us to borrow up to 50% up to a certain dollar limit at 4.45%.     I was going to pull the $25K over 36 months paying $371 bi-monthly.

In Texas am I allowed to borrow against my 401K to use the money as a down payment for a rental property?     This would be for my second rental property.

Nick, what you are referring to is called 'Participant Loan' this feature must be allowed by your plan in order for you to use it. 

If it is in fact available, then it doesn't matter if you are in TX or any other state, it is not state specific, but rather plan specific feature. 

@Brian Eastman

 Thanks for providing the downside of the 401(k) loan.  A lot of people tout how amazing the loans are but i like the full perspective.  I am highly considering utilizing a 401k loan that I will receive at 3.75% and will pay off over 5 years.  The amount I'm considering borrowing is about $15k so I'm essentially paying back about $23k.  Not to mention the gains/dividends I will be losing out in the market.

@Nick Weidner

This concept worked for me a few times.  I would borrow and repay on my 401K when I had a day job to accumulate more rentals.  I used it for a loan once and a few times I paid cash for a property, repaired, rented and refinanced paying back the 401K.  

I remember people at my work heard me talking about this and thought I was crazy.  They couldn't grasp why I would want to break into my 401K to buy real estate.  To them that was risky and unsafe.  Filter the noise.

Frank 

The VERY traditional lender I used for my first investment property was OK with using a 401k loan for part of the down payment.  He said that it is considered to be your money, you're just tapping an asset.

I've used this for my last Investment property and love it. I pay it back to myself through me bussiness as a loan. Then I get the 3.25% interest back into my 401K plan. So really the numbers work so I could do this and still make a profit in that property. Will do it again when that loan is paid off. 

i did that last year to pull 50k from my 401k. no issues. my interest was 3.25%

regardless, cheap money!

@Nick Weidner

The following website explains the 401k loan rules.

http://www.irs.gov/Retirement-Plans/Retirement-Pla...

Originally posted by @Brian Eastman :

@Nick Weidner  

A lot of folks here on BP tout the idea of a 401(K) loan for a property purchase.  The thing that is missed by most is the fact that the $25K loan will likely cost you in about $35K.  Is that worth it to you?

The issue is that while you do not pay taxes or penalties on the borrowed funds, you are replacing the pre-tax dollars in the plan with after-tax dollars out of your pocket.  In addition to the interest on the loan (which does go to the plan), you are effectively paying whatever your marginal tax rate is on top.  So, if your tax rate is 28%, that $25K will cost you $35K in new earnings to replace.

 You may a valid point but another angle to view it from is that you are borrowing $25k from a tax free account.  The relevance being that if you wanted to save up that $25k in the first place, outside of the 401k, you would have to have done it with after tax dollars.  So you are effectively having to "earn" $35k either way. 

I would much rather borrow funds that have been growing tax free, matched by my employer no less, than to save up $25k from my paycheck.  Especially when the interest on that money is not only being paid back to my account, but in future year inflated salary dollars to boot.

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