Reports before Davos suggested that President Trump would announce a move to encourage homeownership by allowing people to withdraw money from their 401(k) accounts to make a down payment on a home purchase without incurring a 10% early withdrawal penalty.
Davos has come and gone, now we hear reports that the President is “not a fan” of this approach. His comments appear to echo criticism from some who say we shouldn’t be encouraging people to withdraw money from their retirement accounts.
There is merit to this criticism – but it’s also worth considering in the first place, as home buying has historically proven to be as good a way as retirement plans to build wealth. However, it makes sense to explore ways to develop new sources of down payments to increase homeownership.
In November, a Release of the National Consumers Association reveals two sobering statistics. First, “the average age of first-time buyers has risen to a 40-year high.” And secondly, “this share of first-time home buyers fell to less than 21%.
Down payment requirements are often the biggest barrier to entry-level ownership. For example, as the OCC has ruled, “For first-time buyers, the biggest challenge is coming up with a down payment, which can be exacerbated by rising house prices.” [Office of Comptroller of the Currency On Point 9/24].
So, what should we do? If there are concerns about the liquidation of individual retirement accounts, there is an easy way to have a better world. People can borrow from their 401(k) to make a down payment on a home purchase. But the laws governing this practice are very restrictive.
The maximum repayment period on a 401(k) mortgage is 15 years. This should be increased to 30 years (subject to repayment requirement on sale or refinancing).
Department of Labor (DOL) regulations require that the loan must have a “reasonable interest rate,” to prevent tax-free foreign distributions. This rule is usually interpreted as the main and 1% to 2%, . currently it is up to 7.75% to 8.85%. This is the highest of the loans to use for the down payment. The rules should be changed to allow a lower loan-to-value ratio for home loans.
But the biggest hurdle for someone borrowing from a 401(k) for a home payment is the risk of losing your job or moving on to a new job. Most 401(k) plans require you to pay off the loan if that happens. This creates a significant financial risk for the consumer if they cannot come up with the funds to repay the retirement account.
If a person keeps their 401(k) account in a company plan after leaving a job, the plan should not be allowed to require loan repayments when the job is terminated (unless the home is sold or refinanced).
We also have to think outside the box in helping other sources of down payment.
Last August, the Community Home Lenders of America (CHLA) presented a proposal that a Starker Exchange for Home Ownership. The idea is simple. Large sums of money are tied up in stocks, mutual funds, and REITs with taxable income, and are owned by parents and grandparents of young families and people struggling to save up for a home.
The CHLA proposal would allow long-term capital gain deferral on the sale of up to $50,000 in stocks, bonds, mutual funds, or publicly traded REITs – if the funds are given to a child or grandchild who uses the funds within 6 months as a down payment on a first-time home purchase.
Would our proposal be too expensive? It can be done, if it is done in a targeted way – but the proposal can be measured and directed to address budget concerns. Put a lifetime cap on the amount allowed, limit it to first-time homebuyers, cap the purchase price of the home at the FHA loan limit, and schedule it not as capital gains but as deferred (by reducing the basis for buying a new home). Shares of mutual fund profits should not qualify, as this is not a voluntary sale by the taxpayer.
From a budget standpoint, because it doesn’t rely on tax dollars but instead goes into existing privately owned properties, the cost of federal subsidies per home purchase is much lower than, say, the amount taxpayers spend each year on CDBG and HOME grants that are used as 100% grants to pay down payments to buy a home.
The simple truth is that for individuals – especially seniors – there is a significant opportunity for individual income gains to be realized if our program’s incentives were not taxed. Without this new tax incentive, there is a good chance that the benefit would not happen now, and if someone dies with at least that level of benefit, they will receive a large benefit when they die.
We have seen the history of the transfer of wealth from generation to generation – from young families to the elderly – as house prices and stock prices have exploded. Due to the tax code’s disincentives for sales, these benefits are limited to some extent.
Why not open them to help a new generation – someone’s children or grandchildren?
Finally, we will see that there is talk of eliminating the capital gain for the sale of a principal residence (currently there is an exclusion of $250,000/500,000). Anything that helps the living space can be a good thing. But significantly, this does not encourage home ownership. Therefore, a better approach would be to extend our Starker exchange proposal to capital gains in the primary home with these exemption limits.
Our home ownership challenges are significant. It’s time to be brave.
And maybe in a few years, we can read the Realtors report that the average age of the first time buyer has decreased!
Scott Olson is the Executive Director of Community Home Lenders of America (CHLA).
This column does not necessarily reflect the opinion of HousingWire’s editorial department and its owners. To contact the editor responsible for this piece: [email protected].
