Can I Use My 401(k) to Buy a House?

Buying a home can be an uphill climb. Some home buyers have a tough time saving up a down payment—so they start getting creative. For a lot of people, their biggest pile of cash is in their 401(k). So why not use the money in your 401(k) to buy a house?

It’s super tempting. But here’s the deal: While homeownership is a great goal, it’s not worth stealing from your future retirement. Trust us, that “American Dream” could turn into a nightmare in the long term.

Here’s the simple answer: It’s never, ever a good idea to take money out of your 401(k) (or any other type of retirement account) early to pay for something like a house.

We’ll explain why—just stick with us.

 

Should I Use My 401(k) to Buy a House?

At Ramsey, we’ll never tell you to use your 401(k) to buy a house. Sure, it’s possible to do and we’ll explain how later. But just because you can do something doesn’t mean you should. And this idea definitely goes in the shouldn’t category.

First, if you’re so strapped for money while saving for a home down payment that you need to borrow from your 401(k), you’re not ready to be a homeowner. Think about it: After closing on a house, homeowners need margin in their budget to cover mortgage payments, larger utility bills, home maintenance costs, and even unexpected repairs that could pop up at any time.

On top of that, pulling money out of your 401(k) means stealing from your future retirement in more ways than one. For example, an early 401(k) withdrawal comes with hefty penalty fees and taxes. In fact, you could lose a third of your nest egg before you even get to spend it!

Those fees and taxes are bad enough—but the damage doesn’t stop there. The worst part of taking money out of your 401(k) to buy a house is losing the long-term growth on the money you stashed away for your retirement. Compound growth is a wonderful thing, and it’s what turns a few thousand dollars’ worth of contributions from you and your employer into millions over time. Taking that money out of your 401(k) means you’re unplugging it from that potential. And you’ll lose out on some serious money in the long run.

With that said, it’s no surprise that statistically, very few people actually use their 401(k) to buy a house. In fact, only 9% of first-time home buyers made down payments by tapping into a 401(k) in 2023.¹ Even in this world of crazy spending habits and buy now, pay later schemes, most people recognize that using your 401(k) to buy a house isn’t a good idea.

Still not convinced? Let’s explore the dark underbelly of how using a 401(k) to buy a house works—that way, you’ll get an up-close view of the nasty consequences it brings.

 

How Can I Use My 401(k) for a Home Purchase?

There are two ways to use your 401(k) to buy a house: early withdrawal or a loan.

Early or Hardship Withdrawal

An early withdrawal is when you take the money in your 401(k) out before you’re ready (or old enough) to retire—which the IRS has determined to be 59 1/2 years of age. It’s like withdrawing money from your bank account . . . except it’s much more complicated and expensive.

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Most plans will allow you to take money out of your 401(k) for what’s called a hardship withdrawal. That means you have to prove to your employer and your 401(k) plan manager that you need the money for something truly financially necessary, like medical expenses, funeral costs or a down payment. But for some plans, putting a down payment on a house doesn’t qualify as a hardship. And the IRS won’t see your situation as a hardship if you have other ways of paying for it, like money from a spouse or child.² It all depends on your employer’s 401(k) rules.

But even if you’re allowed to take the money out of your 401(k) to buy a house, that’s not the end . . . not by a long shot. There are fees and taxes involved, and they’re pretty hefty.

The 10% Early Withdrawal Penalty Fee

If you take money out of your 401(k) before you’re 59 1/2, you’ll be hit with a 10% early withdrawal penalty. There are exceptions, but they’re very specific (death, permanent disability, dividing assets after divorce, etc.)—and buying a house ain’t one of them.³ That stinks. But don’t worry, it gets better . . . for the government.

The 20% Tax on 401(k) Withdrawals

Now, we get into income taxes. That’s right—everyone’s favorite topic. You might remember that when you and your employer put money into your 401(k), it was deducted from your paycheck before taxes so the money could grow tax-free. It’s a really great system . . . if you leave the money in your 401(k). But when you take money out of your 401(k), it’s subject to those old reliable federal and (depending on your location) state income taxes. There’s a mandatory 20% federal tax withholding on early 401(k) withdrawals right off the bat.⁴

So, let’s say you want to take $80,000 out of your 401(k) to make a 20% down payment on a $400,000 home. You might feel like you found a shortcut to homeownership by taking money out of your 401(k), but $24,000 of that $80,000 will get eaten up in taxes and penalties before you can even spend it. Poof! You’ll have to take even more out of your 401(k) if you still want to put 20% down.

And by the way, depending on your annual income, the amount you withdraw, and your state’s tax rates, your giant withdrawal to make that down payment will most likely bump you up into the next tax bracket (maybe even two), which means a higher tax bill for you for the year.

401(k) Loans

The second way to use your 401(k) to buy a house is even worse than the first: a 401(k) loan. It’s debt—debt made against yourself and your future. It’s such a bad idea that some 401(k) plans won’t even allow you to take out a loan.

With a 401(k) loan, the IRS limits how much you can borrow for a down payment: up to $50,000 or half the amount you have in your 401(k) account, whichever is less. Depending on the plan, you could have up to 25 years to pay it back—with interest, of course.⁵

On the surface, a loan might strike you as a smarter way to go. You’re borrowing from yourself, so the interest you pay essentially goes back to you and not some bank. So long as you keep making payments, you won’t have any penalties or taxes to deal with.

But guess what? It’s not the smart way to go. In fact, it’s pretty stupid.

For one thing, that 5–7% interest you’ll be paying yourself is nowhere close to the long-term return of 10–12% you could get if you left your money in your 401(k) in good growth stock mutual funds. Why in the world would you trade 10–12% for 5–7%? That seems nuts, right?

But here’s something even nuttier. If you get fired, laid off, or leave your job before you pay off the loan, you’ll have to pay the balance in full before the federal tax deadline the following year (which we all know is on or around April 15). If you don’t, the government will consider the loan an early withdrawal on your 401(k), and all the taxes and fees that you tried to avoid by taking out the loan in the first place will kick in.⁶ That means that, as long as you have that 401(k) loan over your head, there’s no freedom to leave your company if, let’s say, your boss is a jerk or you’d just like to move to a more tax-friendly state.

And . . . hello! . . . a loan is nothing but big, fat debt! And debt is dumb. Don’t risk your retirement nest egg over a stupid debt that’ll take you years to pay off.

Some people might tell you that a loan like this is “good debt”—like a student loan. You’re investing in your future home, after all. Well, we’re here to tell you there is no such thing as “good debt.” Debt robs you of your greatest wealth-building tool: your income. And you can’t use it to build wealth if it’s tied up in debt payments.

Buy a House the Right Way

We’ll give it to you straight: You should never, ever take money out of your 401(k) to buy a house. Period. If you don’t have enough money saved for a down payment, you’re not ready to own a house. Remember, homeownership comes with all kinds of other costs that could sink you if you’re not financially prepared (HOA fees, home maintenance, homeowners insurance premiums, etc.).

Leave the money in your 401(k) alone until you’re actually ready to retire. The only time (italicized—so you know it’s important) it’s okay to consider taking money out of your 401(k) early is to avoid bankruptcy or foreclosure. But those are catastrophic financial situations. Wanting to get into a house faster isn’t the same thing.

So, if you’ve got the house fever: Cool off, grab a cold shower, and take a real, honest look at where you are financially. There’s plenty of time and better ways to save up for a down payment. For starters, 20% down is ideal because you won’t have to pay private mortgage insurance (PMI) as part of your monthly mortgage payment. PMI is insurance that protects the lender—not you—in case you stop making your monthly payments. Lenders require it for all home buyers who put less than 20% down.

But a 5–10% down payment is okay if you’re a first-time home buyer. Just be prepared for those PMI payments. And remember, the more you put down, the less you have to borrow—and the faster you can pay that mortgage off and be completely debt-free!

Unless you’re putting 100% down, choose a 15-year fixed-rate mortgage with a monthly payment that’s no more than 25% of your take-home pay (including principal, taxes, insurance, PMI and any HOA fees).

Find a Real Estate Agent You Can Trust

Navigating all this can be tricky, so we recommend reaching out to a real estate agent you can trust. For a fast and easy way to find one, try our RamseyTrusted program. RamseyTrusted agents are experts in your local market and can help you find the house that suits your family’s needs and budget. And since they’re RamseyTrusted, you can feel confident they’ll serve you the Ramsey way.

Find a top real estate agent in your area today!