Using a 401(k) to pay off your mortgage: What to consider

Mortgages can literally open the door to many wonderful things, but they can also be a burden. That’s particularly true for people who are retired, facing financial hardships, or dealing with high interest rates. 

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If you’ve been a diligent saver, at some point, you might notice that you have enough money in your retirement savings accounts to pay off your mortgage entirely — but should you? The answer isn’t always so clear-cut, but we’ll help shed some light on factors that can help you make a sound financial decision when choosing whether to use your 401(k) to pay off your mortgage. 

How does using a 401(k) to pay off a mortgage work?

There are two ways you can use your 401(k) to pay off your mortgage: a 401(k) loan, available to people still employed, or a 401(k) withdrawal. 

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The maximum possible amount you can borrow with a 401(k) loan is $50,000. Given that the average mortgage borrower still owed over $260,000 in 2024, it’s unlikely that many people will be able to use a 401(k) loan to pay off a mortgage. If you do, consider that you’ll need to repay the funds within five years — or sooner, if you leave your employer. 

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We’ll focus on using a 401(k) withdrawal to pay off your mortgage for the remainder of the article since that’s what most people will need to fully repay their mortgage. There are many moving parts to consider when using your retirement fund to pay off your mortgage, however, which we’ll delve into next. 

Pros and cons of using your 401(k) to pay off your mortgage

Deciding whether or not to take out your 401(k) to pay off your mortgage is a complex decision. It can be an excellent choice or a not-so-great decision — it just depends on your particular situation. Here’s what to consider: 

Pros

• Less debt stress: Not having to worry about making the mortgage payment each month eases many people’s anxiety about the future, and that can lead to better mental health. 
• Frees up cash flow: The average homeowner spends 6% of their income on the monthly payments for their mortgage; often more. Getting rid of your mortgage can make it far easier to make ends meet each month. 
• Streamlines finances: Having one less bill to pay each month makes it easier to manage your money, with less potential for missed payments or other account mishaps. 
• Save on mortgage interest: Although rates are generally low, the total interest payments over the life of a mortgage can be hundreds of thousands of dollars. 

Cons

• Hefty tax bill: There are almost always tax implications to pulling money out of a retirement account. Always talk to a tax professional about your specific situation. 
• Potential penalties: If you’re under age 59 ½, you’ll pay an additional 10% tax rate on the amount you withdraw, further adding to the cost. Some early withdrawal penalties are waived for some hardships but not for simply paying off your mortgage.
• Less investment returns: Retirement plan investments held in the stock market generally yield a 7% return each year, which can compound over time into big yields – likely higher than what you spend on your mortgage interest.
• Reduced wealth liquidity: Shifting some of your assets from your retirement plan to your home will make them harder to access if you run into financial problems later. 
• Depletes retirement savings: You won’t have to worry about making a mortgage payment anymore — but you won’t have as much to last you through retirement, either. 
• No more mortgage interest deduction: You can deduct interest on up to $750,000 of mortgage debt each year — which means less savings if you pay it off all at once.

When might it make sense to use a 401(k) to pay off your mortgage?

Let’s combine all of the information we’ve provided to give you a more in-depth look at whether it makes sense to use your 401(k) to pay off your mortgage. 

Calculate your tax bill

First, it’s important to know how much extra you’ll pay in taxes so that you don’t have an unpleasant surprise at tax time. Figure out how much you might need to pay off your mortgage, and then multiply that amount by your tax bracket to see how much you might owe in income taxes. (Keep in mind that you may be pushed into the next-higher tax bracket, especially for large 401(k) withdrawals like people often need to pay off their mortgage.)

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For example, if you’re withdrawing $100,000 and you’re in the 24% tax bracket, you’ll owe an additional $24,000 in income taxes. If you’re under age 59 ½, you’ll also pay an additional 10% tax on the withdrawal — 34% in this example, for a total of $34,000. Knowing this amount can help you predict how much extra you may need to withdraw to cover the tax bill alone. To get an exact number, reach out to a tax professional. 

Compared your mortgage rate with your investment return rate

Interest works both ways: you can pay it on your debts, or earn it on your investments. The difference between these two numbers can help you compare whether it’s better to use retirement funds to pay off debt or invest. 

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For example, if you’re earning a 7% rate of return on your investments like a typical investor, then it won’t make as much financial sense to pay off a mortgage with a 3% interest rate. If your interest rate is 9%, though, then it might make better financial sense to get rid of the debt first. Keep in mind that investment returns aren’t fixed, however, and many people are willing to accept fewer theoretical returns in exchange for guaranteed benefits, like being debt-free. 

Make sure you’ll still have enough for retirement

Paying off your mortgage can ease a lot of the financial burden of retirement, but it’s important to ensure your other needs are met, too, without having to rely on tools like credit cards. 

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You’ll still have other expenses like food, healthcare, and even other homeownership costs like utilities and repairs that you’ll need to pay for. That’s why it’s important to consider whether you’ll still have enough left over for these other expenses, too. It’s not worth it if you have to drain your entire retirement savings account, for example. 

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Consider other assets you may have that can fund retirement, such as money in an Individual Retirement Account (IRA) or savings accounts at your bank. If you’re not yet retired, consider whether you’ll still be able to save up enough money in the coming years to meet your projected savings goals.

Alternatives to using a 401(k) for mortgage payoff

Using a 401(k) to pay off your mortgage is one way to handle it, but it’s important to be aware of other options for getting rid of it — or at least making it more manageable to deal with in the interim. 

• Home equity investments: You can take out a lump sum to pay off your mortgage, repaying the funds up to 30 years later with a share of your home’s future equity.
• Refinancing the mortgage: If your mortgage payment isn’t working for you, you may be able to refinance for a better rate and/or a longer term. 
• Home equity loans or HELOCs: You can take out a second mortgage to repay the first, although your options may be a bit more limited if you have bad credit.
• Lump-sum payments from other savings: If you’re fortunate enough to have cash saved elsewhere, such as in a bank or brokerage, it may be better to use these funds instead.

Final thoughts

We highly recommend speaking with a financial advisor who can help you understand your options. Mortgages and retirement savings can have many different and compounding spin-off effects that aren’t always obvious at first glance. Sometimes they may have better solutions that you haven’t yet thought of — or, at the very least, they’ll be able to confirm that your decision is a sound one for the long term.

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