Using Your 401(k) to Pay for a House Down Payment

How 401(k) withdrawals work for down payments

You can take money out of your 401(k) before retirement, but the IRS charges a 10% early withdrawal penalty on top of income tax unless you meet specific exceptions. For a down payment, you have two main routes: a loan from your 401(k) plan, which you repay to yourself, or a withdrawal, which is permanent and taxed as income. A loan lets you keep the money working in the market and avoid the penalty, but you must repay it or face taxes and penalties when you leave your job. A withdrawal gives you the cash immediately but shrinks your retirement savings and costs you in taxes right away.

Not every 401(k) plan allows loans or withdrawals before age 59½. Your plan document and your employer's benefits team control what is permitted. Some plans allow loans but not withdrawals. Some allow neither. You need to contact your plan administrator—usually through your company's HR or benefits portal—to find out what your specific plan permits before you make any decision.

Key Takeaways

• A 401(k) loan lets you borrow from your own balance and repay it over time, avoiding the 10% early withdrawal penalty, but you must repay it or face taxes and penalties if you leave your job.
• A 401(k) withdrawal is permanent and subject to income tax plus a 10% penalty unless you meet an IRS exception, which home purchases do not automatically may have access to for.
• Not all 401(k) plans permit loans or withdrawals before age 59½, so you must check your plan rules through your employer's benefits team before proceeding.
• If you withdraw or fail to repay a loan, the amount counts as taxable income in that year, which can push you into a higher tax bracket and reduce your refund.
• Borrowing from your 401(k) reduces the balance earning returns and leaves you with less saved for retirement, even if you repay the loan on schedule.

401(k) loans: how they work and what you repay

A 401(k) loan is a loan from your own account to yourself. You borrow up to 50% of your vested balance, or $50,000, whichever is less. The IRS sets these limits, not your employer. You repay the loan through payroll deductions, usually over five years, though some plans allow longer terms for home purchases. You pay yourself back with interest—the rate is typically the prime rate plus 1% to 2%, set by your plan administrator.

The advantage is that you avoid the 10% early withdrawal penalty and income tax on the amount borrowed. The interest you pay goes back into your 401(k), not to a bank. However, the money you borrowed stops earning investment returns while it is out of the account, and you have a new monthly payment obligation. If you leave your job before the loan is repaid, most plans require you to repay the full remaining balance within 60 to 90 days. If you do not, the unpaid balance is treated as a withdrawal, triggering the 10% penalty plus income tax on the entire amount.

401(k) withdrawals: permanent access and the tax cost

A withdrawal takes money out of your 401(k) permanently. You do not repay it. However, the IRS taxes the withdrawal as ordinary income in the year you take it, and you owe a 10% early withdrawal penalty on top unless you meet a narrow list of exceptions. Home purchases are not one of those exceptions. The exceptions include disability, medical expenses over 7.5% of your adjusted gross income, a series of substantially equal payments, and a few others—but buying a house does not appear on the list.

The tax hit is real. If you withdraw $50,000 and you are in the 22% federal tax bracket, you owe $11,000 in federal tax plus the $5,000 penalty, totaling $16,000. Your state may add state income tax on top. That $50,000 becomes $34,000 in your hand. You also lose decades of compound growth on that $50,000, which could have grown to $150,000 or more by retirement. Some plans allow a hardship withdrawal, which waives the penalty but not the income tax if you can prove financial hardship—but rules vary by plan, and a down payment on a home you can afford is not typically considered hardship.

Comparing 401(k) loans to other down payment sources

A 401(k) loan costs you less than a withdrawal, but it still has a real cost compared to other sources. If you have a savings account or money market fund, that money is not taxed when you use it and does not trigger a penalty. If you have a Roth IRA, you can withdraw your contributions (not earnings) without penalty at any age, and that money was already taxed when you put it in. If you have family who can gift you money, a gift does not create a debt or reduce your retirement savings.

A personal loan or a home equity line of credit (if you own a home already) may carry a lower interest rate than a 401(k) loan and does not reduce your retirement balance. A down payment assistance program through your state or county may offer a grant or low-interest loan with no repayment required or with repayment only when you sell the home. Before borrowing from your 401(k), explore whether you have other sources available. A 401(k) loan should be a last resort, not the first option.

What happens to your 401(k) loan if you change jobs

If you leave your job while you have an outstanding 401(k) loan, your plan administrator will send you a notice telling you that you must repay the full remaining balance, usually within 60 to 90 days. If you repay it, there is no tax consequence. If you do not repay it by the deadline, the unpaid balance is treated as a withdrawal, and you owe income tax plus the 10% early withdrawal penalty on the entire unpaid amount.

Some people roll their 401(k) into an IRA or a new employer's plan and assume the loan goes with them. It does not. The loan stays with the old plan, and the repayment deadline still applies. If you are planning to change jobs, a 401(k) loan is riskier because job changes are common and the repayment window is short. If you do take a loan and then change jobs, contact your old plan administrator immediately to understand your repayment options and timeline.

Tax filing and the year you take a 401(k) withdrawal or loan default

If you withdraw money from your 401(k) or if a loan defaults and is treated as a withdrawal, your plan administrator sends you a Form 1099-R in January showing the amount and the taxes withheld. The IRS receives a copy. You report this on your tax return as income. The 10% penalty is calculated and reported on Form 5329. If your plan withheld taxes from the withdrawal, that amount is credited against your tax bill, but it may not cover the full tax and penalty you owe, leaving you with a balance due when you file.

A withdrawal also affects your tax bracket for that year. If you withdraw $50,000 and your normal income is $60,000, your taxable income jumps to $110,000, which may push you into a higher bracket and increase the tax rate on your other income. This effect is temporary—it applies only to the year of the withdrawal—but it can be substantial. Use a tax calculator or speak with a tax professional before you withdraw to understand the full cost.

Steps to take before borrowing from your 401(k)

First, contact your plan administrator through your employer's HR or benefits department and ask whether your plan permits 401(k) loans, withdrawals, or both. Ask for a copy of the plan's loan and withdrawal rules, including the interest rate, repayment term, and what happens if you leave your job. Do not assume your plan allows what you want.

Second, calculate the true cost. If you are considering a loan, find out the interest rate and calculate your monthly payment. If you are considering a withdrawal, use a tax calculator to estimate the federal and state income tax plus the 10% penalty. Add that to the amount you need to borrow to see how much you actually have to take out. Third, explore other sources: savings, gifts, down payment assistance programs, personal loans, or a lower purchase price. Fourth, if you decide to proceed with a loan, make sure you can afford the monthly payment even if your income drops or your job changes. Fifth, if you are considering a withdrawal, speak with a tax professional to understand the full impact on your return and your retirement.

Frequently Asked Questions

Can I borrow from my 401(k) if I am self-employed or have a Solo 401(k)?

Yes, Solo 401(k) plans typically allow loans to the owner. The rules are the same: you can borrow up to 50% of your vested balance or $50,000, whichever is less, and you repay with interest over five years. However, you must have earned income to make contributions, and the loan must be documented in writing. Consult your plan administrator or a tax professional to set up the loan correctly.

What if I cannot repay my 401(k) loan before I leave my job?

You have a short window—usually 60 to 90 days—to repay the full balance after you leave. If you cannot repay by the deadline, the unpaid amount is treated as a withdrawal and you owe income tax plus a 10% penalty. Some plans allow you to roll the loan into an IRA, but this is rare. Contact your old plan administrator immediately if you leave your job with an outstanding loan to understand your options.

Does a 401(k) withdrawal count as income for a mortgage application?

A 401(k) withdrawal does not count as ongoing income for a mortgage application because it is a one-time event, not a recurring paycheck. However, lenders may ask where your down payment is coming from. If you withdraw from your 401(k), you will need to document the withdrawal on your tax return or a 401(k) statement. Some lenders have rules about the source of down payment funds, so disclose the withdrawal upfront.

Can I avoid the 10% penalty if I use the money for a first-time home purchase?

No. The IRS does not have a first-time homebuyer exception for 401(k) withdrawals. However, a Roth IRA does allow first-time homebuyers to withdraw up to $10,000 in earnings penalty-free (contributions can be withdrawn anytime). If you have a Roth IRA, that may be a better source than a 401(k). A 401(k) loan, by contrast, avoids the penalty entirely because you are borrowing, not withdrawing.

What if my employer matches my 401(k) contributions—do I lose the match if I take a loan?

Taking a loan does not stop your employer from matching future contributions. However, the money you borrowed is no longer in the account earning returns or receiving matches. If you borrow $50,000 and your employer matches 3% of your salary, that 3% match applies only to the balance remaining after the loan, not to the borrowed amount. Over the life of the loan, this lost growth and lost match can add up significantly.