The Truth About Borrowing from Your 401k for Home Improvements
As a homeowner, there’s no better way to add value to your property than through renovations. Whether you’re improving existing rooms or adding brand new ones, the added comfort and curb appeal that home improvements bring are worth the effort. However, funding an addition to your home is costly and finding the money to pay for the project is challenging.
A quick way for homeowners to obtain the needed funds is to borrow from a 401k for home improvements or take a withdrawal from an IRA. Taking money out of a 401k for home repairs is a convenient way for homeowners to fund a new home renovation project. Here are some of the risks and benefits of using retirement assets for home improvements.
The Cost of Using Your 401k for Home Improvements
There are a few benefits to using your IRA or 401k to pay for home repairs and renovations, as well as some added risks. When borrowing from your 401k, you’re ultimately borrowing from yourself and paying yourself back at lower interest rates than a credit card. Still, borrowing from a 401k greatly reduces your retirement savings. Employees who lose their job for whatever reason are also required to pay the entirety of the loan back within 30 to 60 days of termination.
How Much Can I Borrow from My 401k?
Taking a loan from a 401k permits you to borrow up to 50% of the value of your 401k, a maximum of $50,000. Homeowners with renovation projects more than $50,000 must consider finding additional sources of funding aside from a 401k loan. If you’ve previously borrowed from your 401k, the amount you can borrow with a new loan is reduced by any outstanding amount from the previous year. Someone who borrowed $20,000 from their 401k last year and paid it off one month ago will only be able to borrow $30,000 from a new 401k loan.
An IRA withdrawal for home improvement works well for homeowners looking to fund minor improvements, as long as the cost of the project is $50,000 or less. You will pay income tax, plus a 10% withdrawal penalty if you borrow before the age of 59 ½. Withdrawals from an IRA or a 401k are considered early if the borrower is younger than 59 ½. A hardship withdrawal from a 401k for home repair is subject to income tax as well as the 10% withdrawal penalty if you are younger than 59 ½.
Paying Back a 401k Loan
The cost of a 401k loan includes the principal amount and the interest rate. Any amount borrowed from your 401k must be paid back within five years. When paying off a 401k loan, the money for payments will be deducted directly from your paycheck. Borrowers must understand that taking a 401k loan carries with it the implications of a smaller paycheck.
When borrowing from your 401k, it’s important to consider that some plans will not allow you to make contributions while you are paying the loan back. In some cases, you will lose the opportunity to save for retirement and benefit from an employer’s matching contributions. If you lose your job for any reason, the entire balance of the loan must be paid back within 30 to 60 days of termination depending on your employer’s plan. You must consider a backup plan for repayment in this instance.
Consider Alternatives to Finance Home Improvements
While borrowing from your 401k may seem like a convenient way to fund home improvements, it also comes with a great deal of risk. The future implications of taking a loan from your 401k are not worth mortgaging your retirement plans.
Best Egg Can Help!
Using a personal loan for home improvement is a much better option for your needs. Make funding your home improvement easy with our simple, fixed-rate loans. Subject to loan approval and verifications, our home improvement loans feature 5.99% to 29.99% fixed Annual Percentage Rates (APRs) and manageable payback options with clear terms so you can begin improving your dream home.