Using Your 401(k) to Pay for a Home Down Payment
How to withdraw from your 401(k) for a down payment
You can take money out of your 401(k) before retirement in two main ways: a loan or a withdrawal. A loan lets you borrow from your own balance and pay it back to yourself with interest. A withdrawal takes the money out permanently, but you'll owe income tax on it and possibly a 10% early withdrawal penalty if you're under 59½. Which option costs you less depends on your age, how much you need, and whether you can repay a loan on schedule.
The rules vary by plan. Some 401(k) plans allow loans but not withdrawals for down payments. Others allow a withdrawal under a rule called the Substantially Equal Periodic Payment (SEPP) exception, which lets you avoid the early withdrawal penalty if you take money in a specific pattern. A few plans offer a first-time homebuyer withdrawal, though this is less common than it sounds. Before you decide which route to take, you need to call your plan administrator—the company that manages your 401(k)—and ask what your specific plan allows.
Key Takeaways
- A 401(k) loan lets you borrow from your balance and repay it, but you must repay it on schedule or it becomes a taxable withdrawal.
- A 401(k) withdrawal for a down payment triggers income tax and usually a 10% penalty unless you meet an exception like SEPP or first-time homebuyer status.
- Your plan administrator determines what withdrawals and loans are allowed, so you must contact them directly to learn your options.
- If you leave your job, any outstanding 401(k) loan typically must be repaid within 60 days or it becomes a taxable withdrawal.
- Borrowing from your 401(k) reduces the balance that grows for retirement, which can cost you significantly more in lost growth over decades.
401(k) loans: how they work and what they cost
A 401(k) loan lets you borrow money from your own account balance. You repay it with interest—usually the prime rate plus 1% to 2%—and the interest goes back into your own account. The loan term is typically five years, though some plans allow longer terms for home purchases. You make payments through payroll deduction, which means the money comes straight out of your paycheck before taxes.
The main advantage is that you avoid the income tax and 10% penalty you'd face with a withdrawal. The main risk is what happens if you leave your job. If you have an outstanding loan and you quit or are laid off, most plans require you to repay the full remaining balance within 60 days. If you can't, the unpaid balance becomes a taxable withdrawal, and you'll owe income tax plus the 10% penalty on that amount. This can be a serious problem if you're already in financial stress.
There's also an invisible cost: the money you borrow stops growing. If you borrow $50,000 and your 401(k) would have earned 7% annually, you lose that growth on that $50,000 for the years you're repaying the loan. Over 30 years, that lost growth can add up to far more than the interest you pay back into the account.
401(k) withdrawals: taxes, penalties, and exceptions
If you withdraw money from your 401(k) before age 59½, you owe income tax on the full amount withdrawn, plus a 10% early withdrawal penalty. The income tax is based on your tax bracket—if you're in the 24% bracket and withdraw $50,000, you owe $12,000 in federal income tax alone, plus state income tax in most states. The 10% penalty adds another $5,000. You'd actually receive only about $33,000 of the $50,000 you withdrew.
However, there are exceptions. If you're a first-time homebuyer, the IRS allows you to withdraw up to $10,000 lifetime from a traditional IRA (not a 401(k)) without the 10% penalty, though you still owe income tax. Some 401(k) plans offer the same rule, but not all—you have to ask your plan administrator. If your plan doesn't offer this exception, you cannot use it.
Another exception is the Substantially Equal Periodic Payment (SEPP) rule, also called the Rule of 55. If you leave your job in the year you turn 55 or later, you can withdraw from your 401(k) without the 10% penalty (though you still owe income tax). You must take withdrawals in a specific pattern based on your life expectancy, and if you break the pattern, you owe the penalty retroactively. This is complex and requires help from a tax professional or financial advisor.
Comparing the real cost: loan versus withdrawal
The choice between a loan and a withdrawal depends on your specific situation. Here's how to think about it:
| Factor | 401(k) Loan | 401(k) Withdrawal |
|---|---|---|
| Immediate tax cost | None (you repay with after-tax dollars) | Income tax + 10% penalty (unless exception applies) |
| If you leave your job | Full balance due in 60 days or becomes taxable withdrawal | Already withdrawn; no additional action needed |
| Lost retirement growth | High (money out of market for 5+ years) | High (money permanently out of account) |
| Best for | Stable job, confident you can repay, want to avoid immediate tax hit | Leaving job soon anyway, or may have access to for exception like Rule of 55 |
If you're confident you'll stay in your job and can repay the loan on schedule, a loan usually costs less upfront than a withdrawal. But if there's any chance you'll change jobs in the next five years, a withdrawal might be safer—you avoid the risk of owing a large tax bill if the loan comes due unexpectedly.
What happens to your down payment savings if you borrow
Taking $50,000 from your 401(k) to cover a down payment feels like you're solving the problem. But you're actually moving money from one bucket (retirement) to another (home equity), and the cost of that move is often hidden.
If you take a loan, you're repaying it with after-tax dollars—money that's already been taxed as income. You're also losing the growth that $50,000 would have earned in the market. If your 401(k) averages 7% annual growth and you borrow for five years, that $50,000 would have grown to about $70,000. You've given up $20,000 in growth to buy a house sooner.
If you take a withdrawal, the math is worse. You lose the $50,000 permanently, plus you owe taxes and penalties that might total $17,000 or more. You've actually spent $67,000 of your retirement savings to put $50,000 toward a down payment. That's a real cost that compounds over decades.
Alternatives to raiding your 401(k)
Before you withdraw or borrow, consider whether other options exist. Many first-time homebuyer programs offer down payment help without touching retirement savings. Some employers offer down payment assistance as a benefit. Some states and cities have down payment grant programs. A personal loan or home equity line of credit (if you already own property) might have lower interest rates than a 401(k) loan.
You can also delay the purchase and save more in a regular savings account, which doesn't carry the tax and penalty risk. Or you can buy with a smaller down payment and pay mortgage insurance, which is often cheaper than the tax cost of a 401(k) withdrawal.
The key is to compare the total cost of each option—not just the monthly payment, but the taxes, penalties, lost growth, and job risk—before you decide.
Steps to take if you decide to use your 401(k)
First, contact your plan administrator. You can usually find contact information on your most recent 401(k) statement or by logging into your account online. Ask them three specific questions: (1) Does the plan allow loans, withdrawals, or both? (2) What are the terms—loan length, interest rate, withdrawal restrictions? (3) What documents do you need to provide?
Second, talk to a tax professional or financial advisor before you proceed. They can calculate the actual tax cost in your situation and help you understand whether a loan or withdrawal makes sense for you. This conversation usually costs $100 to $300 and can save you thousands.
Third, if you decide to borrow, make sure you can afford the monthly repayment. If you decide to withdraw, understand the full tax bill before you request the money. Don't be surprised by taxes owed at tax time.
Frequently Asked Questions
Can I borrow from my 401(k) if I'm self-employed?
If you have a Solo 401(k) (a plan for self-employed people), you can usually borrow from it. The rules are similar to employer plans: you repay with interest, and if you don't repay, it becomes a taxable withdrawal. Contact your Solo 401(k) provider to learn the specific terms of your plan.
What if I can't repay my 401(k) loan before I leave my job?
You'll have 60 days after you leave to repay the full remaining balance. If you can't, the unpaid amount becomes a taxable withdrawal, and you'll owe income tax plus a 10% penalty on that amount. Some plans allow you to extend the repayment deadline if you have a hardship, but this is rare. Ask your plan administrator about your options before you leave.
Does borrowing from my 401(k) hurt my credit score?
No. A 401(k) loan doesn't appear on your credit report because you're borrowing from yourself, not from a lender. However, the monthly repayment does reduce your take-home pay, which could affect your debt-to-income ratio if you're applying for a mortgage at the same time.
Can I withdraw from my spouse's 401(k) for our down payment?
No. You can only withdraw from or borrow against your own 401(k). Your spouse would have to request the withdrawal or loan from their own plan. If you're married and filing jointly, you might both have 401(k)s, so you could each access your own balance.
What if my 401(k) plan doesn't allow loans or withdrawals?
Some plans, particularly those offered by smaller employers, restrict loans and withdrawals. If your plan doesn't allow what you need, you cannot override that restriction. Your options are to wait until you change jobs (and access a new employer's plan), to borrow from another source, or to delay your home purchase and save separately.