Use 401(k) to Pay Mortgage While Working?


Dear Dr. Don,

I'm 60 years old with an annual income of $180,000. So, I'm still working toward retirement. I owe $175,000 on my home, worth about $325,000. The value of my 401(k) is $275,000. I'd like to substantially reduce my mortgage balance. Should I use part of my 401(k) for this purpose?


- Hugh Houser

Dear Hugh,

First, your employer's 401(k) plan should allow so-called "in-service" withdrawals for employees over age 59 1/2 while still working for purposes other than hardship or a variety of other permitted early distributions. Check with the plan administrator to find out more.

If your employer offers matching contributions, you should continue to contribute at least up to the limit of the employer match while taking the in-service withdrawals.

That's what's allowed. I recommend against raiding your 401(k) to pay off the mortgage. Instead, while you're still working you should try to divert more of your current income toward additional principal payments on the mortgage and keep your 401(k) fully invested.

When taking a distribution on your 401(k) to pay off the mortgage, you'll owe income taxes. You're making good money. Pulling six figures of funds from your 401(k) could send you into the 33% tax bracket or higher. If that's true, you'd have to withdraw $261,194.03 from your 401(k) to pay the taxes ($86,194.03) and then pay off the mortgage ($175,000).

Do you really want to only leave yourself with less than $15,000 in your 401(k) just for the supposed satisfaction of having paid off the mortgage? If you act against my advice, you could manage your in-service withdrawals over a few years to limit the tax exposure. That's something a tax professional can help you with.

If you expect to be in a lower tax bracket in retirement, waiting until your retirement years to raid these funds likely makes more sense than doing so while you are still working.

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