Using 401k Loan to Get to 20% Equity FHA

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Using 401k Loan to Get to 20% Equity FHA

Eric Gutierrez
Investor · Minneapolis, MN · Member since 2012 · 155 posts · 41 votes

I got bored at work today and started taking a look at my options on my FHA loan.

Short background

I have an FHA loan on a duplex that I own. I paid $165k for it in 2011. My FHA MIP is just a hair under $150 per month. Since my loan started before the FHA change in 2013, once I reach 78% equity and have paid the MIP for at least 60 months the insurance goes away. I'm just looking for a logic check, not actually trying to get to the exact $ on this.

Idea

Take a 401k loan @ 4.25% to pay down the principal enough to get me under the 78% threshold on month 60.

Month 60 with no additional payments made prior I would be at $149,800 or 90.7%. 128,700 is the magical 78%. So the 401k loan amount would be for $21,100.

Naturally I would be under 78% in month 127. The max length my 401k loan allows is 48 months, but for this purpose lets assume that I can do a 67 month loan and have the 401k payments end the same time that the MIP would have naturally ended.

So over the 67 month period, I could either pay $150 per month of MIP or $367 per month to my 401k. So I would have to pay an extra $217 per month. Over the 67 month period that would add up to $14,539.

At month 127 under the natural method of paying the MIP and not making any other payments, my remaining balance would be the 128,700. Under the 401k method, I would be right at 101,000 a difference of roughly 28k. So for paying an extra 14.5k over the period I would wind up 28k better off so actually 28k-14.5=13.5k better.

Other considerations

I realize that by using a 401k loan I could potentially miss out on the gains that the 21k would have seen in stock market. Also, paying the extra $217 per month isn't an issue.

Question

I guess what I'm asking is does anyone else follow my logic, or is it flawed somewhere along the way? Any other negative aspects with this idea besides what I mentioned above?

Let me know what you think. This was more for a logic check than anything, I wont be at 5 years until 2016...

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  • Brian Mathews
    Contractor · Round Rock, TX · Member since 2013 · 767 posts · 389 votes
    12y

    What happens if you lose your job for whatever reason? I think you have 60 days to pay the money back to the loan or you get the penalty + tax rate. Which could be 35% or more. Not too mention the losses from the market. I've been getting 15% + in my mutual funds. I'd leave my 401K alone and make larger payments out of pocket.

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  • Mark S.Pro Member
    Rental Property Investor · KY · Member since 2013 · 1k+ posts · 537 votes
    12y
    Eric Gutierrez , Brian is partially correct. You'll want to contact the 401(k) administrator (if you work for a large employer, it could be outsourced to a company like Mercer; if you work for a smaller employer, it could be someone in HR/payroll) and ask them about 401(k) loan repayment options if you become separated from service. Their answer will likely depend on what's written in the 401(k) plan document. The plan document outlines all components of the plan (I.e., are loans allowed, is there a Roth option, etc.). MOST plans that I'm aware of will call the loan due immediately and if you don't/can't pay it back all at once, it would be treated as a distribution. SOME companies may allow you to pay it back over time. For example, my employer allows you to make bi-weekly repayments if you're separated from service, but it has to be auto-debited from a checking account and you have to pay a small one-time setup fee for this. The bottom line: every company will treat this differently; ask yours.
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  • Glen Sonnenberg
    Investor · Sunnyvale, CA · Member since 2013 · 62 posts · 19 votes
    12y

    Regardless of the 401k considerations, I'm not sure I understand your math. If you need to get your loan balance down to $128,700, you could simply calculate how many principle payments you need to make (from an amortization schedule) such that when you reach the 60th month payment your balance is $128,700 and make a principle payment now from your 401k. It should be much smaller than $21k since as you move through the payment schedule the principle portion of your loan payment grows. So, putting an extra $10k now (as an example) would mean that your loan balance decreases faster from here on out to get you to the magic 78%. Also, I believe the 78% is based on the loan to value of the house so although you may be required to pay for 60 months you may reach that % (or not) through the potential increase (or decrease) in value of the house during that five years. That may depend on your loan though.

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  • Matt Devincenzo
    Investor · Clairemont, CA · Member since 2011 · 3k+ posts · 2k+ votes
    12y

    I don't have the time right this minute to run numbers, but wanted to chime in here. Look at what the principal payments from now until 2016 would be to get you to that 78%. I'd be willing to bet it will be the best option of all since the sooner those payments are made the more impact it will have on the reduction in the amount of interest you would pay.

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  • Eric Gutierrez
    OP
    Investor · Minneapolis, MN · Member since 2012 · 155 posts · 41 votes
    12y

    @ Brian - Yes a major downfall with the plan is that it would have to be repaid if I left the company. I also have being seeing great returns in the stock market. This would be almost more of a high yield bond where I know my return over the time period on that chunk of cash.

    @ Glen - My biggest reason for not throwing extra cash at the principal today say your example of 10k today invested is that my interest rate is 4.25% so that money that invest today would earn less than a 4.25% return. If I dumped a chunk of cash on the 60th payment I would be seeing the 4.25% return from paying down principal on top of saving the $150 per mo as I would meet the min time requirement.

    I'll have to dig into what the 78% is based on whether its the original purchase price, or the current market value. I'm not overly concerned with a value decrease as its located next to a major state college.

    @Matt - Ive considered that approach but for the same reason as above less than a 4.25% return on any money invested prior to that 60 month mark.

    I guess more my thinking on this was more so if next month I was hitting month 60 and didnt want to cash out my reserves to get to 78%.

    This is more of a hypothetical question. I'm not sure I would strongly consider doing it not just thinking through some options. As I mentioned, I got bored at work and started playing with the numbers. Initially started off with an approach like Matt suggested of what extra it would take from now till then.

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