Owning a home is a significant milestone for many. However, saving up for the down payment alongside other financial goals can take a long time.
On the other hand, your retirement account can provide an immediate source of funds for your home purchase. However, you must be careful — using retirement savings to fund a home purchase can impact your future financial well-being.
This article will compare the pros and cons of buying a home with retirement funds, then explore a few alternatives.
Pros of Buying a Home With Retirement Funds
Access to a Large Down Payment
Retirement accounts offer a substantial amount for a down payment, especially if you have diligently saved for years. This can make getting your down payment easier.
Can Preserve Your Retirement Assets
A home can be a significant retirement asset as you build equity through debt payoff and potential appreciation. You can tap into this equity with home equity loans, home equity credit lines, and reverse mortgages.
Buying a home with retirement funds could preserve your retirement assets while acquiring a place to live.
Cons of Buying a Home With Retirement Funds
Reduced Retirement Savings
Homes can indeed be significant retirement assets. However, using existing retirement funds can slow down your tax-advantaged investment growth in your retirement account.
If your retirement plan earns higher returns than your home, you may have less for retirement. A 401k calculator can help you estimate the growth you could potentially miss if you buy a home with your 401k.
Potential Penalties and Tax Consequences
You may incur early withdrawal penalties and income taxes if you withdraw from your retirement accounts early. This reduces your funds for investment growth and the amount you can put toward a home.
Borrowing against your retirement may avoid these, but you’ll have to juggle a mortgage and a retirement account loan. Failing to repay this loan could trigger taxes and penalties.
Three Alternatives to Fund a Home Purchase
Buying a home is one of the better ways to use retirement funds early, but it can be risky. Many alternatives can help you get the home you want and preserve your retirement assets:
1. Government Loan Programs
Numerous government loan programs help homebuyers purchase homes more easily.
For example, Federal Housing Administration loans may be able to help qualified home buyers get mortgages with 3.5% down payments and potentially lower credit scores.
Another example would be Veterans Affairs loans. Military service members/veterans and their families may be eligible for loans 0% down.
Government loans tend to come with restrictions and specific criteria, so evaluate loans before signing paperwork.
2. Rent-to-Own Arrangements
Rent-to-own entails renting a home with the intention of buying it from the landlord in the future. Part of each rent payment builds your equity in the property to serve as the down payment.
This lets you save your down payment while living in the home. However, be sure you want to commit to this home before entering the agreement.
3. Downsize or Relocate
Purchasing a smaller home can help avoid tapping into your retirement funds. If you own a home now, doing this can substantially cut your existing mortgage payment. If you downsize in retirement, it could help finish your mortgage and leave you with extra proceeds.
Relocating to a more affordable area is another option. Buying a home in an area with lower taxes and living costs frees up funds to put toward a larger mortgage.
The Bottom Line
Saving for a home can take years. Therefore, buying with retirement funds can be tempting. Plus, you’re buying something that can potentially preserve and grow your wealth.
However, you risk reducing your potential investment returns, taking on excessive debt, and incurring penalties or taxes.
Before tapping into your retirement funds, consider government loan programs, rent-to-own agreements, or downsizing and relocation. In many cases, these and other alternatives can help you move into a home you enjoy without risking your hard-earned wealth.