On March 27 the Coronavirus Aid, Relief, and Economic Security Act, known as the CARES Act, was signed into law as a way to address our nation’s economic fallout from the COVID-19 pandemic. In addition to providing stimulus money to eligible Americans, the act offers a provision that makes it possible for organizations and institutions to allow their employees to tap into their retirement savings and borrow or withdraw more than usual. This unprecedented measure can actually help some folks buy their first homes sooner than they may have expected.
It all comes down to retirement savings. Typically when you withdraw money from your 401(k) or traditional IRA before age 59 1/2, you’re subject to a 10% penalty on the amount you withdraw, plus an automatic withholding of 20% for federal taxes. But under the CARES Act, for the remainder of 2020 the 10% penalty is waived, and you have three years to pay income taxes on your distributions.
You can also take out a loan from yourself. Normally if you choose to borrow money from your 401(k), you are only allowed to borrow 50% of your vested account balance up to $50,000. Under the new regulations, you can borrow 100% of your account balance up to $100,000.
“When you borrow from your 401(k), you have a set of terms to follow just like you do with any other loan, without the need to qualify and have your credit pulled. Your payments go back into your account and will be deducted from your paycheck, much like your contributions,” says Brandon Renfro, a financial planner that specializes in retirement.
Under normal circumstances, tapping into your nest egg early to bankroll a large purchase is a bad move.
But leveraging the temporary loosening of restrictions around retirement-account distributions to buy a place of your own, on the other hand, could potentially be a smart move right now, since “the down payment is often the biggest hurdle that most people face when it comes to homeownership,” says Kendra Barnes, founder of the real estate media company the Key Resource.
Philip Michael, entrepreneur and founder of New York Equity Group, a real estate investment company, agrees that unprecedented times offer the potential for unprecedented opportunities.
“Anytime there’s a macro event of this magnitude, there will always be uncertainty and emotions will run high. Whenever that happens, it’s a buyer’s market,” says Michael. “With the CARES Act, it allows anyone who’s had a decent nest egg, or even a 401(k), the ability to capitalize on that.”
To make the most of this CARES Act provision, create a plan which details the type of property you want to own and a compelling reason for why you want to buy it. “If you’re looking for somewhere to live long-term, established with family, then it could make sense to buy. Also, why pay someone else’s mortgage if you don’t have to?” Michael says.
Other first-time buyers want the coveted title of homeowner-landlord because of the income-earning potential. “Buying a multifamily gives you the ability to have your living expenses paid for by rental income. For instance, if you buy a multifamily and then live in one unit and rent out the others, the rental income from the other units can subsidize or cover the mortgage payment for the property,” Barnes says. Because of COVID-19 and the provisions laid out in the CARES Act, aspirational buyers now have the chance to become actual buyers.
Every first-time-homeownership plan should also include a funding strategy since federal, state, and local monies are specifically earmarked for newbies to leverage. First-time homeowners have access to down payment assistance programs, through grants and deferred loans, which can supplement their CARES Act retirement distribution. Grants never have to be repaid. Deferred loans vary in terms of stipulations, but typically have to be repaid after a certain amount of time. “They can be forgiven if you meet certain criteria,” Barnes says.
Federal Housing Administration (FHA) loans, for example, offer first-time buyers the opportunity to purchase a home with a low down payment (3.5%) for single-family homes as well as multi-unit properties. “With FHA, you can actually go as high as four units and still only have to put 3.5% down,” Michael adds. “Also, you can apply for a 203(k) loan, which allows you to renovate an existing FHA purchase.”
State and local programs also back first-time homeowners with capital. “Many of these programs can also be combined to give you a bigger bang for your buck,” Barnes says. To locate these opportunities, check with your county’s housing authority and your state’s housing finance agency for more information. Another resource is HUD’s directory of state-by-state home-buying programs. Pay attention to program requirements, which may include income limits as well as residence requirements, stringent debt-to-income (DTI) ratio, and credit score guidelines.
The deadline for borrowing up to $100,000 from your 401(k) under the CARES Act is September 23, 2020. “The big change the CARES Act makes to repayment is that you don’t have to start payments until 2021. After that, you’ll have five years to repay the loan,” says Renfro. “As long as you pay the loan off according to the terms, you won’t owe taxes on the money taken out.”
As COVID-19 forces us to figure out a new normal, we can at least use these programs to make first-time homeownership, and the stability that comes with it, more accessible than it was before.
This information should be used as a guide, not a complete source. Rules vary by area so it is always best to consult local resources.
