Dear Quentin,
My wife and I are months from turning 50 and have $800,000 combined in our 401(k)s and IRAs saved for retirement thus far. We recently capitalized on an opportunity to buy our dream property where our final retirement home will eventually be built in 5-10 years, almost draining our other savings for the down payment.
I’m afraid that the house purchase might eventually become a financial burden without the savings cushion to fall back on. Should we consider dipping into our retirement for $100,000 (before penalties and taxes) to pay it off, since it is eventually going to be the home we live in during our retirement years?
We live in southern New Mexico.
Related: ‘I can’t sustain this pace’: I’m 61, single and have an MBA. I’m draining my savings after losing my job. What’s my next move?
Dear Planners,
Your dream house is still a sandcastle in the sky. Your retirement accounts are making money for you while you sleep.
I can understand how you think that making a withdrawal from your 401(k) or IRA will make your dreams come true faster, but it could have the opposite effect. There’s increasing evidence that inflation and debt is pushing more people to dip into their retirement savings — sometimes as a short-term loan, which they may or may not be able to pay back.
You are under no such pressure. You want to build your dream home, and you have obviously set your heart on this decision, but making financial decisions for emotional reasons, especially fear, is more often than not a no-no. You write that you have “recently capitalized” on this opportunity. I assume (and hope) you have not made any irreversible decisions yet.
You will be forced to pay a 10% penalty on withdrawing from your 401(k) before 59½ and, if that wasn’t bad enough, you will be required to pay income tax on your early $100,000 withdrawal. So you would have to withdraw a lot more than $100,000 to meet your needs. The Internal Revenue Service has made every effort to deter you from taking such an action.
“‘You want to build your dream home, and you have obviously set your heart on this decision, but making financial decisions for emotional reasons, especially fear, is more often than not a no-no.’”
You don’t say whether you have a traditional IRA or a Roth IRA. With a Roth IRA you contribute after-tax dollars. A traditional IRA is funded with pretax dollars, and you pay tax on your withdrawals in retirement. For this reason, Roth IRAs are good options for younger people because investors in their 20s and 30s tend to have a lower tax bracket.
According to the IRS: “Generally, early withdrawal from an Individual Retirement Account (IRA) prior to age 59½ is subject to being included in gross income plus a 10 percent additional tax penalty. There are exceptions to the 10 percent penalty, such as using IRA funds to pay your medical insurance premium after a job loss.”
Withdrawals from a Roth IRA may, in some cases, be taxable. They may also incur a penalty, though that depends on a number of factors. Withdrawals must be taken after 59½, for instance, and after a five-year holding period. Exceptions to this early-withdrawal penalty include first-time home purchase — does this apply to you? — qualified education expenses, and birth/adoption fees.
Vanguard saw a rise in hardship loans: in 2022, 2.8% of people with a retirement plan initiated a hardship withdrawal, up from 2.1% in 2021. But Fidelity said outstanding 401(k) loans and average loan amounts are trending downward: those with a loan outstanding dropped to an all-time low of 16.6% in the first quarter of 2023, down from 21% five years ago.
Think twice before you dip.
Readers write to me with all sorts of dilemmas.
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