If you need to access some of the money you’ve built up in your 401(k), you can use a short-term loan that you will pay back with money from your paychecks. Borrowing from your 401(k) can often be a better alternative to getting money than using higher-interest loans like title loans, payday loans, or even personal loans.
If you’re considering a 401(k) loan, you might be wondering how it will affect your other debts like your mortgage. The short answer is that it won’t. Whether you are in the process of qualifying for a mortgage, or are already paying one down, a 401(k) won’t affect other debts.
In this article, we’ll explain how 401(k) loans work and detail pros and cons to consider.
- A 401(k) loan can provide a way to access your account funds for short-term liquidity.
- 401(k) loans also have no impact on your mortgage, whether it’s your current mortgage or one you are applying for.
- You can use a 401(k) loan for a number of uses, such as for a down payment on a home.
- Try to repay your 401(k) loan quickly. The longer you take to repay the loan, the more you’ll miss out on the power of compound interest.
401(k) Loans and Mortgages
A 401(k) loan has both upsides and downsides to consider. If used responsibly, it can be an easy way to access money to meet short-term expenses. However, taking funds out of your retirement account can have long-term effects on the value of your portfolio. The longer your money is not invested, the longer you miss out on the power of compound interest.
A 401(k) loan has interest that is paid to your account, but it does not involve a lender or a review of your credit history. By law, you can borrow up to the lesser of: 1) $50,000 or; 2) the greater of $10,000 or 50% of your account value.
Receiving a loan from your 401(k) is not a taxable event unless the loan limits and repayment rules are violated. It has no impact on your credit rating and no effect on your mortgage. It will not affect the rates and terms of your current mortgage or play a role in your application for a new mortgage.
In fact, you can take out a 401(k) loan to use as a down payment for a home.
401(k) loans will not affect your mortgage. They allow you to access some of your retirement savings for a short-term needs. You are only obligated to repay the loan if you want to keep your tax advantages and avoid penalties.
401(k) Loans and Real Estate
You can use a 401(k) loan to finance the purchase of real estate. In fact, the rules for 401(k) loans are different if you are using the loan to buy a house.
The usual regulations require 401(k) loans to be repaid on an amortized basis, or with a fixed repayment schedule in regular installments, over less than five years. However, if the loan is used to purchase a primary residence, the repayment period in this case can be longer. Your plan administrator sets the terms for how long.
However, it seldom makes sense to use a 401(k) loan to completely finance a residential purchase, because in most circumstances a regular mortgage loan will offer more financial benefits. For one, you cannot deduct your interest payments on 401(k) loans as you can with mortgage interest payments. In addition, borrowing money from your 401(k) for long enough to pay off a house might significantly reduce your portfolio’s value in the long-term.
Another way a 401(k) loan can play a role in buying real estate is if you use the funds to pay for the down payment or closing costs. Since the 401(k) loan isn’t technically a debt—you’re withdrawing your own money, after all—it has no effect on your debt-to-income ratio nor on your credit score, both of which are major factors that lenders consider.
Will a Loan on My 401(k) Affect My Mortgage?
A 401(k) loan will not affect your mortgage or mortgage application. A 401(k) loan has no effect on your debt-to-income ratio or on your credit score, two big factors that influence mortgage lenders. In fact, some buyers use 401(k) loan funds as a down payment on a home.
Are 401(k) Loans a Good Idea?
A 401(k) loan has upsides and downsides to consider. Whether it’s a good idea for you depends on a number of factors about your personal financial situation. These loans can provide a good source of low-cost cash for short-term needs. But they can reduce the value of your retirement portfolio if you don’t make timely repayments.
Can I Use a 401(k) Loan for a Down Payment?
You can use a 401(k) loan for a down payment and doing so won’t affect your debt-to-income ratio. Just make sure you can repay your 401(k) account quickly. The longer you take to repay your loan, the more you’ll miss out on the power of compound interest.
The Bottom Line
In some cases, a 401(k) loan can be a good way to access short-term liquidity. 401(k) loans also have no effect on your mortgage. In fact, taking out a 401(k) loan can be a good way of raising a down payment for a home. Keep in mind that the downside of these loans is that they remove funds from your investment, so you can miss out on the power of compounding until you repay the loan.