401k Loan for down payment on investment property
1. If a newbie investor has access to a 401k loan for the down payment, how is that viewed by Hard Money Lenders?
2. If using the 401k loan as a down payment, I assume it's best to wait until after a credit report and debt/credit is analyzed. Would you agree?
1) I can't speak for hard money lenders, but my experience is they don't care where your down payments or closing costs money comes from so long as you can perform on the loan.
2) I'm not sure what you mean...I wouldn't think it would matter
Here are the general considerations regarding 401k loans.
401k Participant Loans
- If your 401k plan allows for 401k participant loans, the maximum loan amount is equal to 50% of the balance up to $50k. The repayment terms for a 401k participant loan are equal monthly/quarterly payments of principal and interest (typically prime plus 1%) over a 5 year term (longer if used to acquire your principal residence).
- Please note that if you take a full $50,000 and then pay back the loan, you can't take another $50,000 until 12 months after the first loan was fully paid back.
- Per the loan offset rules that went into effect with the 2018 Tax and Job Act: if you leave your job and the loan is current at the time you leave your job but then the loan goes into default because you left your job, you will have until your tax return deadline (including any timely filed extension) to make the loan current by depositing the outstanding balance into an IRA (and thereby avoid the taxes and penalties that would otherwise apply).
Thank you. I plan to use my 401k loan for my down payment very soon.
I don't think the 401K loan hits your credit report either. I am gearing up for something like this, but only want one "loan payment" so i'm getting creative.
@Dennis Parslow, while 401k can help, keep in mind that of you end up loosing your current job, you would have to pay the money back in a short period of time, within 6 months if I am not mistaken. It can definitely be considered as liquid assets by the lenders, however it is not recommended for you to take out big loans from your 401k because of the timing. If you dont pay it back within the terms, it is considered as a withdrawal and it will be taxed and you will pay a 10% penalty if you are not fully vested. Good luck with whatever you decide to do, as long as you know the consequences.
@Dennis Parslow 401k loan is totally acceptable for downpayment in the hard/private money world. Doesn't affect credit.
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@Dennis Parslow as @Xavier Toefield mentioned a 401(k) loan does not report to your credit. And while I can't speak for all hard money lenders most won't care about that payment anyway. At least, not like a conventional loan will. HMLs are more concerned about your exit strategy. Now, if you are BRRRR'ing, then you will need to talk this through with your conventional lender as that 401(k) loan payment will need to be factored in. And your 401(k) administrator can tell you what the payment would be in theory ahead of time so you can work your prequalification. Hope this helps!
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Thank you, @Andrew Postell. I have weighed the option for over a year and I have decided to liquidate, rather than take the loan. In the end, it came down to confidence in my own bilities after so many successful years managing major projects and programs for Fortune 500 companies, and completing two sucessful live-in flips at the same time. I'm taking control of my own money and future, and I feel good that one more decision is made. Analysis Paralysis be damned.
@Dennis Parslow
Just remember if you are able to liquidate you will likely end up with about half of what’s there , that’s an expensive trade off
Yes, I will have to pay the taxes whenever I take the money out, and assuming I'm 'going to be in a lower tax bracket' later is not enough argument, since I hope that's not the case. My plan is to use the money many times to create enough wealth to use while I'm still alive and establish wealth for my children. There is some perceived risk, and as a Project Manager I always focus on risks, but I've decided. Thanks,
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@Dennis Parslow
A loan against your 401K will not show up on your credit.
When talking to a loan officer, indicate clearly that you will be using the 401K loan as your downpayment.
I used a 401K loan as the downpayment on my first investment property. Best decision I ever made.
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This depends on the terms of your 401K. If for example you have a self directed 401K or IRA you can usually use the money directly with no loan necessary. This has multiple advantages including tax advantages to help shield growth in a traditional 401K or if it is a ROTH you can shield the capital gains at the sale. This is not really a question for an internet forum board because of the complexities of the 401K system, the various accounts types and the mandates of the fund managers. I would advise speaking with your 401K manager or a CPA who has experience in this area.
Just know the risks. I have used 401k loans before but for short term financing. I don’t think I would do one for a long term down pmt. if using for a brrr property, it is a great source of funds.
@Dennis Parslow
I like your thought process. You may also want to consider self directing your 401(k) instead of liquidating the whole thing and using the money many times. Building wealth and tax advantage plans is easier than in most tax environments.
Ah, there's the rub; I can't liquidate because I still work for the company. Therefore, the loan is my only option. Yet, the lenders tell me that they don't like it because it's essentially 100% leverage at that point, in their mind. Even though the loan is from my future self.
I am also having a hard time getting an answer to this question; Can I pay it off early, as soon as I can refinance, for instance? The figure given shows the interest as a lump sum, indicating you may have to pay all of the interest no matter when you pay it back. Does anyone know?
Quote from @Craig Jeppesen:
Just know the risks. I have used 401k loans before but for short term financing. I don’t think I would do one for a long term down pmt. if using for a brrr property, it is a great source of funds.
Cool info. How did you refi? Conventional or something else?
Quote from @Carlos Tavares:
@Dennis Parslow Parslow
Just remember if you are able to liquidate you will likely end up with about half of what’s there , that’s an expensive trade off
@Dennis Parslow Carlos is correct with the heavy burden of the taxes on the 401k. Are you familiar with the 2017 Tax Cuts and Jobs act that allows for Bonus deprecition to be taken in the first year a business asset is put into service? A piece of income producing property may qualify for this. Talk to a tax professional to help you with this. In 2024, the bonus depreciation is 60% of the value of the asset put into service. There's a possibility that you may have enough depreciation to offset any taxes owed on the 401k withdrawl. There are a lot of nuances so make sure to discuss with your tax pro. They can help you navigate what is possible.
Additionally, I'd wait to make the withdrawl until Jan 1 rather than today if you want to use this strategy so you have 12 months to put some RE into service for next year's taxes to offset the tax.
best wishes.