What is the Best Way to us your 401k to buy a Home?

Question

Okay, so I am running into an issue right now. I have plenty of money to buy a home but it's locked up in a 401k with an employer I don't work with.

I want to find a way to not have loose 40% for taking it out before 55 1/2. Is there a way where I don't have to pay it back since it's going into real estate?

Gary Parilis · Answer

@Audrey Cranmer, look into self-directed IRA.This allows you to use your retirement funds for non-traditional investments, including (and especially) real estate. The way it works is you open the SD-IRA and roll your funds into it from your 401k. You open an LLC that is owned by your IRA (not by you personally, to keep you at arm's length), and you manage that LLC. It's intended for "investing", not "a business", so it should be focused on buy & hold, not on flips, but rehabs are fine. Self-dealing is prohibited, so you can't personally lend to or borrow from that LLC, and you can't personally do any work. You need to hire property management -- if the tenant has a plumbing problem, you cannot personally show up with tools. Borrowing is a challenge, but manageable -- you can only borrow from "non-recourse" lenders, which tend to have restrictions on the age of the property, etc. and will typically only lend you up to 60-65% of the appraised value.

Even with all these restrictions, it's an awesome way to tap into a source of capital that most people just have sitting in mutual funds.

As a bonus, you're benefiting from the tax advantages of an IRA/401k. One thing to watch out for is that if you borrow, the earnings attributed to that borrowing is taxable right away (because it's not earned on the money you invested in the IRA/401k).

Disclaimer: Research all this yourself. I'm not an expert -- just an ordinary guy who has researched it and rolled funds into a SD-IRA.

George Blower · Answer

@Audrey Cranmer

1) You can't take a loan from your former employer plan

2)If you are self-employed (i.e. active self-employment earned income separate from your w-2 income) with no full-time w-2 employees, you can set up a Solo 401k and then rollover your 401k funds from your former employer 401k.

• You could then take a loan of up to 50% of the balance not to exceed $50,000. Please be sure to select a Solo 401k plan provider which allows you to take a loan and will prepare the required 401k loan documents.
• The repayment terms are equal monthly/quarterly payments (as you prefer) of principal and interest (e.g. prime + 1%) spread over a 5 year term (or longer if you will use the loan to purchase your primary residence).
• There are no prepayment penalties and no restrictions on what you can do with the proceeds of the 401k loan.
• Please note that you are obligated to pay back their 401k (regardless of the performance of your real estate investment).
• As an alternative to taking the loan, you could even purchase the investment property directly using funds in your Solo 401k (assuming you select a Solo 401k plan provider which allows you to invest in real estate). If you don't have enough Solo 401k funds to purchase the property as an all-cash deal, you can combine your Solo 401k funds with non-recourse debt to purchase the investment property. Learn more about non-recourse lenders here: https://www.biggerpockets.com/member-blogs/9552/70408-ira-and-solo-401k-non-recourse-lenders
• Individual who is diagnosed with COVID-19, with a CDC-approved test;Individual whose spouse or dependent is diagnosed with COVID-19, with a CDC-approved test; ORIndividual who experiences adverse financial consequences as a result of being quarantined, furloughed, laid off, having work hours reduced, being unable to work due to lack of child care due to COVID-19, closing or reducing hours of a business owned or operated by the individual due to COVID-19; or other factors as determined by the Treasury Secretary.
• Individual who is diagnosed with COVID-19, with a CDC-approved test;
• Individual whose spouse or dependent is diagnosed with COVID-19, with a CDC-approved test; OR
• Individual who experiences adverse financial consequences as a result of being quarantined, furloughed, laid off, having work hours reduced, being unable to work due to lack of child care due to COVID-19, closing or reducing hours of a business owned or operated by the individual due to COVID-19; or other factors as determined by the Treasury Secretary.
• Maximum Amount of the Loan: 100% of their 401k balance not to exceed $100,000. Please note that per the multiple loan rules, the amount of the loan must be reduced by the highest outstanding balance of any other 401k participant loan over the prior 12 months (regardless of whether such other loan is currently outstanding).
• Monthly or Quarterly Payments: The loan must be paid back in equal monthly or quarterly payments of principal and interest.
• Interest Rate: The interest rate is equal to prime plus 1% (or CD rate plus 2%) and is a fixed rate that is set at the time that the loan is taken.
• Term of the Loan: Five-year term unless the proceeds of the loan are used to purchase a primary residence in which case the term of the loan may be up to 30 years.
• First Payment:For monthly payments, the first payment that would otherwise be due is delayed until January 2021 (e.g. if the first monthly payment would have been due on May 15, 2020, it will be due on January 15, 2021).For quarterly payments, the first payment that would otherwise be due is delayed until the first quarter of 2021 (e.g. if the first quarterly payment would have been due on May 15, 2020, it will be due on February 15, 2021).
• For monthly payments, the first payment that would otherwise be due is delayed until January 2021 (e.g. if the first monthly payment would have been due on May 15, 2020, it will be due on January 15, 2021).
• For quarterly payments, the first payment that would otherwise be due is delayed until the first quarter of 2021 (e.g. if the first quarterly payment would have been due on May 15, 2020, it will be due on February 15, 2021).
• Individual who is diagnosed with COVID-19, with a CDC-approved test;Individual whose spouse or dependent is diagnosed with COVID-19, with a CDC-approved test; ORIndividual who experiences adverse financial consequences as a result of being quarantined, furloughed, laid off, having work hours reduced, being unable to work due to lack of child care due to COVID-19, closing or reducing hours of a business owned or operated by the individual due to COVID-19; or other factors as determined by the Treasury Secretary.
• Individual who is diagnosed with COVID-19, with a CDC-approved test;
• Individual whose spouse or dependent is diagnosed with COVID-19, with a CDC-approved test; OR
• Individual who experiences adverse financial consequences as a result of being quarantined, furloughed, laid off, having work hours reduced, being unable to work due to lack of child care due to COVID-19, closing or reducing hours of a business owned or operated by the individual due to COVID-19; or other factors as determined by the Treasury Secretary.
• You may delay making any 401k loan payments due between 3/27/2020 and 12/31/2020.
• You must commence making loan payments in January 2021 (or the first quarter of 2021 if your loan payments are due on a quarterly basis).
• If you elect to delay making such loan payments, the term of your loan will be appropriately extended. For example, if there are 10 monthly loan payments remaining on your 401k participant loan and the next payment is due April 15, 2020, you can elect to delay making such payments until January 15, 2021 and at that time would need to make 10 more monthly payments through October 15, 2021.

3) Keep in mind that in order to take a distribution or loan under the CARES Act you must have been impacted by the virus in one of the enumerated ways & your current account provider must allow you to take a CARES Act distribution or loan. The IRS recently provided guidance regarding eligibility under the CARES Act and specified that a qualified individual includes an individual who has a reduction in pay (or self-employment income) due to COVID-19.Distributions:

If so, you can take a penalty-free distribution (as well as waive the 20% withholding requirement) from your 401k (assuming that the employer allows it) anytime between 1/1/2020 and 12/31/2020. You may avoid the taxes if you deposit the funds in an eligible retirement plan (which includes anIRA) within "3 years and a day" of the date of the COVID-19 distribution (note: compare to a 60-day rollover). Please note that the account into which the funds are deposited must be the same type of account from which the funds were first withdrawn (e.g. withdrawal of pre-tax funds from a 401k could be deposited in a pre-tax IRA but not a Roth IRA - "like to like").

Loans:

Payments on a 401k loan taken under the CARES Act must be paid back starting in 2021 over a 5 year term.

Here are the details regarding the loans:

NEW LOANS:

The CARES Act which was enacted to provide relief to individuals impacted by COVID-19 allows for increased 401k loans and more flexibility for repayment of these loans.

Specifically, you must be an individual who meets one of the following conditions to demonstrate that you have been impacted by the crisis (and it will be your responsibility to retain documents in your files that demonstrates that you are a qualified individual):

• Individual who is diagnosed with COVID-19, with a CDC-approved test;Individual whose spouse or dependent is diagnosed with COVID-19, with a CDC-approved test; ORIndividual who experiences adverse financial consequences as a result of being quarantined, furloughed, laid off, having work hours reduced, being unable to work due to lack of child care due to COVID-19, closing or reducing hours of a business owned or operated by the individual due to COVID-19; or other factors as determined by the Treasury Secretary.
• Individual who is diagnosed with COVID-19, with a CDC-approved test;
• Individual whose spouse or dependent is diagnosed with COVID-19, with a CDC-approved test; OR
• Individual who experiences adverse financial consequences as a result of being quarantined, furloughed, laid off, having work hours reduced, being unable to work due to lack of child care due to COVID-19, closing or reducing hours of a business owned or operated by the individual due to COVID-19; or other factors as determined by the Treasury Secretary.

• Individual who is diagnosed with COVID-19, with a CDC-approved test;
• Individual whose spouse or dependent is diagnosed with COVID-19, with a CDC-approved test; OR
• Individual who experiences adverse financial consequences as a result of being quarantined, furloughed, laid off, having work hours reduced, being unable to work due to lack of child care due to COVID-19, closing or reducing hours of a business owned or operated by the individual due to COVID-19; or other factors as determined by the Treasury Secretary.

On or before September 23, 2020, such individuals take a 401k participant loan subject to the following terms:

• Maximum Amount of the Loan: 100% of their 401k balance not to exceed $100,000. Please note that per the multiple loan rules, the amount of the loan must be reduced by the highest outstanding balance of any other 401k participant loan over the prior 12 months (regardless of whether such other loan is currently outstanding).
• Monthly or Quarterly Payments: The loan must be paid back in equal monthly or quarterly payments of principal and interest.
• Interest Rate: The interest rate is equal to prime plus 1% (or CD rate plus 2%) and is a fixed rate that is set at the time that the loan is taken.
• Term of the Loan: Five-year term unless the proceeds of the loan are used to purchase a primary residence in which case the term of the loan may be up to 30 years.
• First Payment:For monthly payments, the first payment that would otherwise be due is delayed until January 2021 (e.g. if the first monthly payment would have been due on May 15, 2020, it will be due on January 15, 2021).For quarterly payments, the first payment that would otherwise be due is delayed until the first quarter of 2021 (e.g. if the first quarterly payment would have been due on May 15, 2020, it will be due on February 15, 2021).
• For monthly payments, the first payment that would otherwise be due is delayed until January 2021 (e.g. if the first monthly payment would have been due on May 15, 2020, it will be due on January 15, 2021).
• For quarterly payments, the first payment that would otherwise be due is delayed until the first quarter of 2021 (e.g. if the first quarterly payment would have been due on May 15, 2020, it will be due on February 15, 2021).

• For monthly payments, the first payment that would otherwise be due is delayed until January 2021 (e.g. if the first monthly payment would have been due on May 15, 2020, it will be due on January 15, 2021).
• For quarterly payments, the first payment that would otherwise be due is delayed until the first quarter of 2021 (e.g. if the first quarterly payment would have been due on May 15, 2020, it will be due on February 15, 2021).

EXISTING LOANS:

The CARES Act which was enacted to provide relief to individuals impacted by COVID-19 allows for increased 401k loans and more flexibility for repayment of these loans.

Specifically, you must be an individual who meets one of the following conditions to demonstrate that you have been impacted by the crisis (and it will be your responsibility to retain documents in your files that demonstrates that you are a qualified individual):

• Individual who is diagnosed with COVID-19, with a CDC-approved test;Individual whose spouse or dependent is diagnosed with COVID-19, with a CDC-approved test; ORIndividual who experiences adverse financial consequences as a result of being quarantined, furloughed, laid off, having work hours reduced, being unable to work due to lack of child care due to COVID-19, closing or reducing hours of a business owned or operated by the individual due to COVID-19; or other factors as determined by the Treasury Secretary.
• Individual who is diagnosed with COVID-19, with a CDC-approved test;
• Individual whose spouse or dependent is diagnosed with COVID-19, with a CDC-approved test; OR
• Individual who experiences adverse financial consequences as a result of being quarantined, furloughed, laid off, having work hours reduced, being unable to work due to lack of child care due to COVID-19, closing or reducing hours of a business owned or operated by the individual due to COVID-19; or other factors as determined by the Treasury Secretary.

• Individual who is diagnosed with COVID-19, with a CDC-approved test;
• Individual whose spouse or dependent is diagnosed with COVID-19, with a CDC-approved test; OR
• Individual who experiences adverse financial consequences as a result of being quarantined, furloughed, laid off, having work hours reduced, being unable to work due to lack of child care due to COVID-19, closing or reducing hours of a business owned or operated by the individual due to COVID-19; or other factors as determined by the Treasury Secretary.

If you meet the above conditions:

• You may delay making any 401k loan payments due between 3/27/2020 and 12/31/2020.
• You must commence making loan payments in January 2021 (or the first quarter of 2021 if your loan payments are due on a quarterly basis).
• If you elect to delay making such loan payments, the term of your loan will be appropriately extended. For example, if there are 10 monthly loan payments remaining on your 401k participant loan and the next payment is due April 15, 2020, you can elect to delay making such payments until January 15, 2021 and at that time would need to make 10 more monthly payments through October 15, 2021.

Cameron Tope · Answer

Audrey,

I've used loans against my 401k to buy real estate multiple times and it's an easy process. Unfortunately, to avoid penalties, you can only take loans against your 401k, not withdrawals. There are a few exceptions to the rule related to the CARES act and covid. If you've faced some hardship or tested positive for covid, you may be eligible for a penalty free withdrawal. But you'll have to speak with whoever holds your 401k.

Hope that helps!

Carl Fischer · Answer

@Audrey Cranmer

If you are looking to rollover the 401(k) to an SDIRA to buy a personal property or residence, that would be considered prohibited transaction. When the SDIRA is involved, you want to look at the purchase as an investment for you later in retirement. The IRS has specific rules and regulations in place to prohibit the SDIRA from providing you with any current benefit.

Patrick McCarthy · Answer

CARES ACT allows you to pull up to $100,000 out before end of year penalty free if you qualify.   No parameters around how you need to use the money.  No need to pay it back to the 401K but you do have to pay tax  on what you pull out.  you have a three year period to pay it back.  Not sure of all the qualifiers but I believe that if you had Covid, you have a dependent that had Covid, you lost your job or suffered reduced income due to Covid, you would qualify.  I am sure others will post if I incorrectly stated the qualifiers or will add what I missed.  You should be able to find info on this pretty easily in the google.  :)

Audrey Cranmer Moini · Answer

Hi Gentleman,

This is all very helpful information. This would be a personal purchase not an investment. I am thinking based on the info provided,( I will do further research) rolling over my previous employers 401k to a Solo 401k would be the best.

The IRA would be great for investment and I don't believe I qualify for any COVID programs since I have not lost my job.

Thank you again!

Juan Deshon · Answer

Some things to consider: Are you buying a home to live in? Is this investment property? If it is investment property which i assume it would be, an SDIRA could be a way to go. (if you do not qualify for the solo 401k) There are many providers out there, some which would set you up with an LLC as @Gary Parilis mentioned. There are others that will let you purchase the Real Estate without the use of an LLC but all transactions will flow through your new custodian holding your funds. Both methods shouldn't cause you taxation or penalties. Slight correction to your original post as well, the age to distribute funds without penalty is 59.5 .

What is the Best Way to us your 401k to buy a Home?

Most Popular Reply