Your 401K and Your Mortgage Loan

With the decline in “defined benefit” pension plans across the country, many employers choose to offer their employees retirement savings plans defined in Section 401(k) of the Internal Revenue Code. Possessing a 401(k) account can have several effects on your mortgage loan, and nearly all of them are positive.   Your retirement savings’ effect on a mortgage will depend on what program you select and what type of property you are seeking to purchase or refinance. This article will review the most common ways a 401(k) concerns your application and then discuss a few more rare circumstances.

1. First, and most prevalent, is using a 401(k) to prove the necessary reserves to meet an underwriter’s conditions. Reserves are defined as a number of months worth of Principal, Interest, Taxes and Insurance (PITI) payments that are readily available to a borrower as liquid assets. Most commonly, a purchase or refinance of an investment property or second home will require between two and sixth months of reserves. A vested 401(k) balance is sufficiently liquid to prove these reserves.
2. Perhaps the next most common use of a 401(k) is taking a loan against it, or liquidating it entirely, in order to obtain the funds for a down payment on a purchase transaction. Federal statutory law allows you to borrow half your vested balance or $50,000, whichever is less. As an example, if your vested balance is $190,000, you may borrow $50,000 NOT $95,000. Because this is your own saved money, a mortgage company will not count your 401(k) loan repayment in your debt-to-income calculations. This is nearly the only case where “borrowed” funds can be used for a down payment in a conventional loan. There are some additional possible concerns if you liquidate your 401(k) that relate to tax liability, but your loan advisor will be able to walk you through those issues if they apply.

Your lender will ask for a few things if you wish to use your 401(k) as reserves or as a down payment source. They will want to see your most recent statement and if that statement is released quarterly, they may also want an up to date report. Equally important, your advisor will need the “terms of withdrawal” for your account. This ensures that you have access to the funds.

There are some exceptions to the ability to use a retirement account as reserves. The one most often seen is in the purchase of an investment property where there are no existing leases. In order to use the “market” rent from the appraisal as income, a borrower must have between six and twelve months liquid reserves and 401ks and IRAs are specifically excluded from being used.

The bottom line is that a retirement account is always an asset and has myriad uses in helping obtain a mortgage loan. If you have any questions, your licensed loan advisor is an expert and will have an answer for you.

Written by: Industry Expert – Kirk Winegarden
Published: 10/6/2015