Author Topic: 401k loan for down payment  (Read 5534 times)

AZlawyer

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401k loan for down payment
« on: October 02, 2014, 04:23:25 PM »
Has anybody taken a 401k loan to use on a down payment? I know the general advice is don't do it, but it seems to make sense to do it.  Here's the basic situation:

We're going to buy a house that will cost around $600,000, and we have about $80,000 saved.  I'm considering taking a $50,000 401k loan to get us down to an 80% ltv.  I expect to be able to repay that loan within 2 years without reducing our retirement saving rate.  We have about $250,000 saved for retirement, we're early 30's, and our current savings is almost $100,000/year, including retirement savings.

My thoughts are:
1. Having the cash out of the market for the next year or two doesn't seem too concerning for me. If the market goes down, I'll save money by taking out this loan.
2. I'll save PMI, avoid taking out a 2nd, and be able to secure the lowest rate possible on my first.
3. At a 5% rate on the 401k loan, paid with after tax money, 3-4% will be returned back to me in after tax money during retirement.  So my real rate is under 2%, and the fees are minimal.

My concerns:
1. If something happens to my job, that would throw a wrench in everything.  But I feel very secure for the next 2 years during my repayment.  My biggest concern is a drop in income, which could stretch out the repayment term, but that would have to be a fairly large drop.
2. The market could skyrocket in the next 2 years, in which case I would lose out on 20% of my gains ($50k out of $250k).  Actually less, since I'll essentially be dollar-cost averaging that $50k back into the market by making loan payments.

Am I missing anything? I know the "right" thing to do is to wait until I have the money without raiding the 401k, but then I'll almost certainly be paying a higher mortgage rate. Any advice on this?

(sorry if this question has been answered before, the search feature was not working)

AJ

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Re: 401k loan for down payment
« Reply #1 on: October 02, 2014, 04:30:22 PM »
I've done it, so I'm obviously not opposed to the idea, but if you're saving $100k per year, it would only take 6 months or so to save up the rest (put the retirement parts on hold, then catch up). Do you really believe rates will go up that dramatically in 6 months? The right time to buy a home is when you're ready, not when the market is optimal.

Cheddar Stacker

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Re: 401k loan for down payment
« Reply #2 on: October 02, 2014, 06:01:40 PM »
I've done it also for a real estate investment opportunity. I have some problems with your plan though, mainly I wouldn't pay $600K for a house. If you're going to buy it either way and the choice is between this and PMI then I'd rather do the 401k loan. All your logic is sound. Make sure you are allowed to keep contributing to the plan with an outstanding loan. Some plans restrict that.

hdatontodo

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Re: 401k loan for down payment
« Reply #3 on: October 02, 2014, 06:22:40 PM »
remember the days of the 80/15 two loan purchase to avoid PMI with 5% down. Wasn't that gre...uh...nevermind.

Cheddar Stacker

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Re: 401k loan for down payment
« Reply #4 on: October 02, 2014, 08:21:01 PM »
remember the days of the 80/15 two loan purchase to avoid PMI with 5% down. Wasn't that gre...uh...nevermind.

I did that in 2007 and still have the 15% one. We've refi'd the big mortgage 3 times since then though.

AZlawyer

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Re: 401k loan for down payment
« Reply #5 on: October 03, 2014, 01:41:15 AM »
Thanks for all the responses.  Our $100k/year savings is a bit misleading, because almost $30k of it goes to retirement accounts, and I have a business investment I'll be making next year that will tie up the next $30k-$50k.  So I'm looking at over a year to save the remainder of the down payment (and likewise over a year to repay the loan if I take it).  I also should have mentioned that this would include keeping our current house for the time being.  We'll realize about $50k once we finally sell it, so I have that as a safety net in addition to cutting off retirement savings if we get desperate. 

The snowball effect from one devastating event is a concern.  That's probably the reason we always hear that these loans are a bad idea.  I can work through that analysis as long as I'm not missing anything on the numbers side.  Thanks again everybody.

StashDaddy

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Re: 401k loan for down payment
« Reply #6 on: October 03, 2014, 07:03:50 AM »
I've done this exact thing, and it makes sense to me.  Especially for someone of your high earnings/savings potential that can quickly pay it back.  It is only 1/5 the balance of your 401k, so you are leaving most of the money in there....so even if the market skyrockets, you will still be capturing a lot of gains.  (Stocks are on a tear recently, so I don't expect that, but ya never know...)  Why not pay yourself interest instead of the bank? 

That said, having a 401k loan is an additional risk, and I would pay it back as soon as possible.  For one, it handcuffs you to your current job until you pay it off.  And I think most on this website like to have the LEAST amount of handcuffing to their employer as possible =)

I hope that the reason you are keeping your current house and not selling it is to keep it as a rental... 

frugaliknowit

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Re: 401k loan for down payment
« Reply #7 on: October 03, 2014, 07:09:45 AM »
Don't do it.

Use PMI, then throw money at the mortgage balance, the reappraise/get rid of the PMI.

This prevents you from painting yourself into a corner.  Good luck.

tracylayton

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Re: 401k loan for down payment
« Reply #8 on: October 03, 2014, 07:18:26 AM »
I wouldn't do it either, but I am very conservative. I would pay down the top 20% as quickly as possible to get rid of the PMI.

Cheddar Stacker

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Re: 401k loan for down payment
« Reply #9 on: October 03, 2014, 08:49:19 AM »
If you do it why not just:

1) Wait a few months. The house is likely to go down in value over the next few months when activity is low, and it gives you more time to save.
2) Defer that business investment for 6 months giving you more time to pay the 401k loan back quicker.

frugaliknowit

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Re: 401k loan for down payment
« Reply #10 on: October 03, 2014, 11:20:23 AM »
Have you asked about a "piggy back" loan (basically a HELOC for part of the downpayment)?  There might be some portfolio lenders that would do one?

thow

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Re: 401k loan for down payment
« Reply #11 on: May 22, 2017, 11:44:39 AM »
My understanding is that some 401k loans don't require you to re-pay the full balance within 60 days of leaving your job. My employer's plan allows you to reamortize the loan so that you are paying down the balance monthly instead of it coming out of your paycheck.

Does the MMM still think the 401k loan is a bad idea if you don't have to repay the whole thing in 60 days of leaving / losing your job?

seattlecyclone

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Re: 401k loan for down payment
« Reply #12 on: May 22, 2017, 12:25:54 PM »
I recently took out a 401(k) loan for part of the down payment on our new house. Our old house is currently for sale and we plan to repay the 401(k) loan immediately after the sale closes. Given the choice between taking out that 401(k) loan or selling taxable stock only to buy it right back again, the loan seemed like the right choice. The longer you intend to keep the loan open, the more that the provision requiring repayment after leaving your job should scare you. For a few months up to a year, it probably shouldn't be much of a concern.

thow

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Re: 401k loan for down payment
« Reply #13 on: May 22, 2017, 12:33:15 PM »
Thanks that seems like good guidance.

Scortius

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Re: 401k loan for down payment
« Reply #14 on: May 22, 2017, 02:40:11 PM »
You need to figure out what your PMI payments would be.  I was someone who vowed never to pay PMI, but I just took out a conventional 90/10.  It turns out that with a reasonable down payment and good credit, PMI payments often come out to be pretty small.  You may be better off also going with a conventional 90/10 or 85/15 and either 1) paying to 20 or 22% within a year or two, or 2) simply 'let it ride' and divert the extra money into investments.  in my case, my loan was 4.125% and the PMI adds approximately 2% to bring it up to 6%ish.  Not a glaring emergency, but something I'll evaluate after maxing the rest of my retirement contributions.

seattlecyclone

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Re: 401k loan for down payment
« Reply #15 on: May 22, 2017, 03:33:56 PM »
You need to figure out what your PMI payments would be.  I was someone who vowed never to pay PMI, but I just took out a conventional 90/10.  It turns out that with a reasonable down payment and good credit, PMI payments often come out to be pretty small.  You may be better off also going with a conventional 90/10 or 85/15 and either 1) paying to 20 or 22% within a year or two, or 2) simply 'let it ride' and divert the extra money into investments.  in my case, my loan was 4.125% and the PMI adds approximately 2% to bring it up to 6%ish.  Not a glaring emergency, but something I'll evaluate after maxing the rest of my retirement contributions.

Is that 2% of the entire loan balance? If so, perhaps you might think about it differently if you considered just the portion of your loan that goes beyond 80% of your home's value. Because that 2% of the entire borrowed amount really is only charged because you're borrowing that last 10%. Looking at it this way, the PMI could easily be costing you more than you would pay if you charged that last 2% to a credit card...and that much credit card debt usually is counted as a "debt emergency."

Scortius

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Re: 401k loan for down payment
« Reply #16 on: May 22, 2017, 08:50:42 PM »
You need to figure out what your PMI payments would be.  I was someone who vowed never to pay PMI, but I just took out a conventional 90/10.  It turns out that with a reasonable down payment and good credit, PMI payments often come out to be pretty small.  You may be better off also going with a conventional 90/10 or 85/15 and either 1) paying to 20 or 22% within a year or two, or 2) simply 'let it ride' and divert the extra money into investments.  in my case, my loan was 4.125% and the PMI adds approximately 2% to bring it up to 6%ish.  Not a glaring emergency, but something I'll evaluate after maxing the rest of my retirement contributions.

Is that 2% of the entire loan balance? If so, perhaps you might think about it differently if you considered just the portion of your loan that goes beyond 80% of your home's value. Because that 2% of the entire borrowed amount really is only charged because you're borrowing that last 10%. Looking at it this way, the PMI could easily be costing you more than you would pay if you charged that last 2% to a credit card...and that much credit card debt usually is counted as a "debt emergency."

No, it's the effective interest rate only.  I think the percent of loan value is somewhere around a half a percent.  Doing the calculations, it only made sense to prioritize it after any tax-advantaged contributions, and maybe not even then.  And again, this was surprising to me given how anti-PMI I was going into the whole thing.  Thus, I think it's important to at least get a quote.