Question: I’m 61 with a $950,000 401(k) and need $50,000 for home repairs. Should I borrow given today’s rates or take a 401(k) withdrawal?
Answer: The nice thing about owning a home is getting to build equity in a place that’s yours. Eventually, that could mean cashing in that equity to improve your financial life, or simply enjoying the stability of staying put as long as you keep up with your mortgage payments and property taxes.
The downside of owning a home, though, is that expensive repairs can arise when you least expect them.
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A home equity line of credit (HELOC) is a common source of funding that many homeowners rely on for large home repairs. However, the average U.S. HELOC interest rate remains high, at 7.82% as of November 5, according to Bankrate. A newer loan option is a home-equity-backed card, which may offer a slightly lower interest rate than a HELOC for borrowers with excellent credit, but still upwards of 6%.
If you’re 61 years old and need $50,000 to cover home repairs you can’t put off, you may be wondering whether it pays to dip into your savings or borrow the money given today’s elevated interest rates. The answer might depend on how much savings you have.
With a $3 million nest egg, taking a $50,000 withdrawal might seem like a no-brainer. With a $950,000 balance in your 401(k), it becomes a much tougher question. So it’s important to review your options carefully.
It could be a good time to capitalize on 401(k) gains
Any money you take out of your 401(k) is money that can no longer continue growing in a tax-advantaged fashion. But when you have a pile of money available to you and borrowing rates are high, it could make more sense to tap your 401(k) rather than take on an expensive loan you might struggle to pay back.
Additionally, if your 401(k) balance is high, now may be an especially good time to take a withdrawal.
“The market’s near an all-time high,” says Prudence Zhu, CPA, CFP, and Founder and CEO at Enso Financial. “With borrowing rates outside your 401(k) shooting up, grabbing a slice of those gains today means you can fix that leaky roof or creaky furnace without gambling on a market downturn.”
That said, Zhu warns that if you have a traditional 401(k), as opposed to a Roth, your withdrawals aren’t tax-free. Rather, they’re taxed as ordinary income. If you’re still working, says Zhu, the combination of your paycheck and a large 401(k) withdrawal could bump you into a higher tax bracket.
Zhu also points out that while you may not be covered by Medicare if you’re only 61, you may have a spouse who’s on Medicare, or who will be in a couple of years. If so, your higher income this year could impact their Medicare premium costs in two years and potentially subject them to IRMAAs.
A 401(k) loan could be a better option than a withdrawal
If you’re still employed and plan to continue working, Zhu advises considering a 401(k) loan instead of a withdrawal. These loans allow you to pay yourself back with interest instead of an outside lender.
“That interest actually goes right back into your investments, so you’re essentially dollar-cost averaging your repayments,” Zhu explains.
Of course, the danger of taking out a 401(k) loan is that if you switch jobs and can’t repay it, the remaining balance is treated as a withdrawal. And that could trigger a big tax bill.
But if taking a withdrawal in the first place is something you’re considering, a loan might be a fairly low-risk option if you’ve accepted the fact that you may be looking at a huge tax bill and are able to plan for it accordingly.
You’ll need to run the numbers carefully
Taking money out of a 401(k) at age 61 isn’t necessarily a bad idea. Since you’re beyond age 59 and 1/2, you won’t have to worry about facing an early withdrawal penalty on your money.
But one thing to keep in mind is that the more money you withdraw from your 401(k) ahead of retirement, the less annual income your nest egg might provide you with. Additionally, as Joseph Patrick Roop, President at Belmont Capital Advisors, points out, depending on your tax bracket, if you need $50,000 to cover home repairs, you’ll need to take a larger distribution.
“I will assume they are working and in the 22% federal and 5% state tax brackets,” he says. In that case, “to take a distribution and net 50,000, you will need to take a total distribution of approximately $68,500.”
So let’s say you don’t tap your 401(k) for home repair money and you retire with $950,000. Using the popular 4% rule, you’d garner an annual income of $38,000, not accounting for inflation-related adjustments.
If you whittle your nest egg down to $881,500, you’re looking at a baseline income of $35,260 instead. You’ll need to decide if you’re okay with that based on your projected retirement income needs.
Do what’s best for your peace of mind
If you need money for a home repair, you will either have to come to terms with taking it from your 401(k) or borrowing it and repaying the loan. For this reason, Zhu suggests you may want to choose whichever option sits best with you mentally.
“Given the hassle and uncertainty of job security plus the risks of loan repayment, sometimes the simplest fix is the best fix,” she says. “A direct withdrawal might just buy you the peace of mind you need, especially when it means a safer, happier home.”
