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Hello Catey,
I am a single, 27-year-old male. I am beginning to save for a down payment on a home. I currently contribute about 17% to my 401(k). While that is great, it doesn’t leave me very much room to save for a new home. I am looking for perspective about lowering my 401(k) contributions to help save up for a down payment on a home, versus maintaining 401(k) and lengthening my home-buying timeline.
Thanks,
Zack
Dear Zack,
First of all, congrats on contributing so much to your 401(k) – you’re in an elite minority. A survey from personal finance site GoBankingRates found that about one in three Americans have nothing saved for retirement, with millennials being the most likely group to have a $0 retirement balance.
And even those who do contribute aren’t typically contributing like you do: The average person in their 20s with a 401(k) plan is putting in an average of 7% of their income with their employer matching an average of 4%, Fidelity data shows.
So you’re far ahead of the pack on saving for retirement — and that’s great. Even so, before you touch those retirement contribution amounts, consider other options: “This individual is taking a binary approach to his financial situation, assuming that the 401(k) is the only place to look for cash flow to purchase a home,” says Rich Ramassini, the director of strategy and sales performance for PNC Investments. He notes that you should look at your annual cash flow (income – expenses) and look for other opportunities to save — if you haven’t already.
If you’ve done that, some experts MarketWatch consulted with said that it’s OK for you to lower your 401(k) contributions — to a point, and for a short time — if you want to buy a home. (That advice assumes you don’t have any other high-interest debt and you have an emergency fund socked away -— things you might want to deal with before buying a home, as MarketWatch wrote in this article).
“I generally recommend that employees set aside at least 10% to 15% of their income in order to fund the retirement that they want,” says certified financial planner Amy Ouellette, the director of retirement services at Betterment for Business. “However, your contribution rate doesn’t need to be set in stone, and it’s okay to consider lowering it a bit when saving up for other big milestones. While saving for retirement is incredibly important, so is having the financial freedom to make other worthwhile investments like home ownership.”
So how low can you lower your 401(k) contributions while trying to save for a home? “If buying a home is a few years out, I’d consider reducing your 401(k) savings rate to 8% to 10% of your income, while building up the down payment fund; this way you continue to build for your retirement while meeting a shorter term goal,” says Ouellette.
Certified financial planner Bobbi Rebell cautions that if you decide to lower your contributions to save for a home, you should still make sure you contribute at least enough to get the company match: “That is free money and often a return of 100% depending on the specifics of the plan,” Rebell, who is also the host of the Financial Grownup and co-host of the Money with Friends podcasts, adds. And Ouellette adds that you may want to talk to a financial advisor to calculate exactly how much to decrease contributions by and how much that will leave you for a down payment.
Another possible option: A 401(k) loan, though that also comes with risks. “The best option available, if you plan to stay at your job for a while, is to take a loan from your 401(k) to help cover you for the down payment on the home. Doing this will allow you to continue funding your 401(k) on a pre-tax basis (at the same rate as before), locking in that federal tax deduction up front, while getting you the funds needed to buy the home,” says Dave Cherill, a member of the American Institute of CPAs’ Personal Financial Planning Executive Committee — who adds that you must “keep in mind, if you leave your job with the loan outstanding, you will either need to pay it back, or include it in income that tax year and pay a 10% penalty on top (if under the age of 59-1/2).”
And of course, it’s important that you’re selective about the house you buy, ensuring that you can truly afford the home, that you’re getting a good mortgage rate if you do take out a loan, among other factors. And you should be aware of the fact that investing more in stocks may have upsides over real estate, as MarketWatch explored here.
“Owning a home is a huge financial investment but it is also a lifestyle choice. It provides stability, and a sense of ownership. It is often a commitment to a community,” Rebell points out. “Ownership has many non-financial benefits so it’s not [just] about comparing which will give you the better ‘return.’”
