401(k) plans: A way to save for house down payment?

401(k) plans sometimes allow you to borrow from them. So are 401(k) plans a good way to save for buying a home? Question No. 6 in this reader mailbag.

What’s inside? Here are the questions answered in today’s reader mailbag, boiled down to five word summaries. Click on the number to jump straight down to the question.
1. Career change conundrum
2. Teaching children chess
3. Home alarms
4. Developing a savings plan
5. Financial advice media
6. 401(k) plans as mortgage savings tool
7. Book deals
8. Headaches
9. Home buying and retirement saving
10. Handling minor legal issue

My youngest, who is well into his second year of life, has officially decided that he is capable of climbing everything.

Last night, I asked his six year old brother to play with him on the floor while I went into the next room to find pajamas for them. When I returned, the two of them had climbed into the top bunk of their bunk bed.

When I chided the older one for letting him climb, he just said, “It’s okay! I was behind him!” Not exactly a comfort, to tell you the truth.

Parenting seems to involve nightmare visions of children falling on their heads.

Q1: Career change conundrum
My partner (27) and I (26) work in IT management jobs (his is consulting, which he travels for). I make just under 70k, he makes 85k, usually gets at least a 10k raise each year. For the purposes of conservative planning, let’s say he’ll make more or less 85k indefinitely. We both fund our 401ks, he has about 20k in savings, I have about 15k. We live in NYC, so our cost of living is high.

My job used to bring me day to day satisfaction, but no longer does. I cannot get behind the overall goal of my company (retail), and I am very unmotivated to be successful here, although I know I could be. The corporate atmosphere is suffocating. I have health insurance through my partner as my benefits aren’t great, and I have had numerous health issues throughout my 20s that have taken years and upwards of $25,000 to ‘sort out’ (took me a few years to pay off my medical debt, but we have been completely debt free as of Sept 2011). Through this process, I was turned on to oriental medicine. The quality of care is amazing, and helping people change their diets and lifestyle to create lasting health is exciting.

After thinking about it for a few years, I finally applied and was accepted to a great school for oriental medicine in Texas. I am excited about the idea of doing something for others, with others, as my job, something where I am on my feet more (not in front of a computer all day), where I interact with people, a career that could be flexible with a family down the line (most practitioners open their own practice). Additionally, I feel like working in health care is not only an investment in my future health and that of my family, but a reasonably sound business decision with the aging baby boomer population. Here’s the deal: school costs $50,000 (total), plus living expenses, and the program is 4 years long. Additionally, when starting a practice, a few years of hard work is needed without much pay.

We have begun looking at apartments near the school, and the financial implications of going back to school have really sunken in. We like to travel and are lucky enough to have the time and money to do so now. We will need to spend a large chunk of change moving and buying a used car, and after that we will primarily have to live off my partner’s one income. I am overwhelmingly worried about ‘making it work’ under these circumstances. We have been reading Smart Couples Finish Rich for help, and I plan to roll my 401k over into an IRA that I will contribute to as often as possible. We plan to get married in 2013, so I should be ok on the benefits front, provided my partner maintains a job with health insurance. I know I will have to take on loans to do this, but I am so worried about the stress debt will bring in the future. I am so happy debt free and while I know we will likely eventually have a mortgage, I would like to keep our finances as strong as possible, yet at the same time, my job and my attitude towards this kind of work are greatly bringing down my overall motivation and confidence. Do you think I can pursue this career change without greatly jeopardizing our livelihood in our 30s (when we would like to have a family)??
- Dave

For the next decade, you guys are going to be living leaner than you were. There’s no question about this. You’re simply not going to have the funds to live the life you were previously accustomed to, when you look at the addition of school costs and the subtraction of salary.

Having said that, it’s not impossible, and if this is a route you’re passionate about, it will be well worth it. You will still have enough money to eat and have a roof over your head, which is what really matters. One key suggestion: find a mentor. Find someone who is actually doing this for a living and ask them for advice regularly.

As for having a child, you’re just going to have to wait and see where this path leads you. Just remember that there is no truly bad time to have a child if you and your partner are both deeply yearning to have one. You will make it work, as billions have families have done before you.

Q2: Teaching children chess
I’ve been trying to teach my five year old how to play chess. Playing chess with my father is one of my best memories of childhood and I am looking forward to experiencing it with my own child.

However, I’m having a lot of trouble making it work. My son is just overwhelmed with what’s going on with the game.

How do you teach your kids how to play games? I know based on other things you’ve said that you’ve taught your children how to play a lot of games.
- Leon

I started teaching my son chess and arimaa (a chess-like game) when he was four. The key is to break it down into little pieces.

The first time we played chess, we used nothing but a king, a queen, and two pawns apiece. Seriously. We played a bunch of games with just those pieces.

After that, I kept adding pieces to the left and right. One day, we added two bishops and two pawns to the game, and we took that slowly. After several more games, we added two knights and two pawns, then, later, we added two rooks and two pawns to each side.

Doing this step by step made the entire process far less overwhelming for him and now he loves playing both chess and arimaa.

Q3: Home alarms
My husband’s store, which had an alarm system, was recently robbed. This got me thinking about our own home and whether we should invest in an alarm system. I don’t feel like safety is a factor in our neighborhood, but there is always the “what if?” Do you have an alarm system for your home? Why or why not and what was your reasoning? By the way, I’m pregnant. So does having a young child in the home make it our responsibility to get an alarm system if we can afford it? Right now, I’m thinking it’s a want versus a need, so I wanted your input.
- Charity

My feeling on a home security system is that it’s mostly there to make the homeowner feel more secure. A home security system will not completely prevent your home from being robbed, though it does make it more difficult for the less enterprising thief.

In other words, it won’t stop the careful individual who will know how to meticulously clear out your valuables. It will stop the individual who will stumble into your home, grab the two or three valuable things he/she sees right off the bat, knock over a few things in the process, and run out the door.

I think the biggest benefit is that it enables people who really worry about any form of home intrusion to sleep a little better at night, and that’s worth the cost.

Q4: Developing a savings plan
I graduated from Nursing school this past December 2011. I work at a hospital, 36 hours a week (full time). Every two weeks my take-home income is roughly $1,400. I have 4% invested in my employer’s retirement plan (2% employer match) — pre-tax of course. Also pretax is a contribution to my Health Savings Account. My living expenses are roughly $600/month (rent, electricity, cable (which my roommate wanted and never uses), food and fuel). My auto loan is roughly $16,000. Monthly auto payment is $368. My school loans (payments begin this July, but I’ve been making payments since I began my job this February) total roughly $15,000. Monthly payments will be $150 between the two different student loan organizations. Therefore, every two weeks, I make an auto loan and a student loan payment. My budget at this point is set up for every two weeks and I am still getting use to living with my new budget. My problem is, I am having problems paying myself (meaning putting money in my savings ha!) because I want to be debt free as soon as possible. As of right now, I have roughly $4,000. My other financial short-term goal is to live alone (my roommate is bugging me at the moment and my friends are telling me that my emotional happiness is more important than my financial happiness. She’s not bugging me to the point that I am actively looking at apartments. I do plan to stick it out for a while…at least till the end of summer and then reevaluate the situation. But until then, I’d like more in my savings so I can purchase quality products (used is great) the first time. I’d also like to save up to purchase property at some point and go to graduate school (not till about 5-10 years from now).

What is your advice? How much do you suggest I put into savings every two weeks?
- Connie

I think that once you have a healthy emergency fund – meaning you have enough to cover two to three months of living expenses for yourself – you should focus on removing that debt. As long as you still have those debts hanging over your head, you should be focused on getting rid of them.

So, what I would do if I were you is calculate your living expenses and bills for three months, then target that amount as your savings goal. Make minimum payments until you reach that much in savings.

After that, target your debts. Don’t put anything into savings (unless you need to replenish after an emergency has claimed some of the money). Instead, just focus on paying off the highest interest debt as quickly as possible.

Q5: Financial advice media
Do you watch any television shows or listen to any radio shows for financial thoughts and advice?
- Megan

I listen to NPR’s Planet Money and Marketplace from American Public Media pretty regularly. I also sometimes listen to Dave Ramsey’s radio show.

I’m pretty selective as to the media I listen to or watch. Often, I feel like the things I read or hear or watch are just trying to sell me things that I don’t really want, like overpriced mutual funds or luxury goods.

I usually stick to books, because in those instances writers usually have to make the full case for what they’re talking about. On radio and television, they usually don’t.

Q6: 401(k) plans as mortgage savings tool
After renting for the last 4 years, my wife and I recently decided to start saving for a down payment on a house or condo. Since we intend to stay in our very expensive city, it will take 2-3 years to reach our goal. This savings will be in addition to our retirement savings. Our marginal income tax rate including federal, state, and city taxes is approximately 35%. My 401k program (actually the federal TSP) allows me to take a loan out against the balance.

I’m trying to determine whether it would be more beneficial for us to: (1) save my portion of the down payment in my 401k, and take a tax deduction now, but eventually have to repay the loan back into the account (I have an investment option in the 401k that is very similar to a savings account with a 2.5-3% return); or (2) just save the money outside and not have to pay it back, but not receive the tax savings up front.

I know there is some risk to #1 – if I lose or leave my job, I would need to pay back the money within 60 days, or it would become subject to tax and early withdrawal penalties.
- Kenny

I would not use a 401(k) as a savings tool for a down payment. There are too many chances that you’ll wind up having to pay a stiff tax penalty or not have adequate retirement savings, neither of which is an outcome that you want. The risk-reward ratio is pretty bad.

I would save the money outside of the 401(k). Don’t worry about tax benefits when you’re saving for something like this, because the tax benefits aren’t going to add up to a whole lot and have some risk of costing you more than they’re helping.

Don’t worry – you’ll get there.

Q7: Book deals
Have you ever talked in-depth about the process of getting a book deal, being paid, and things along that line?
- Lawrence

My experience has been a bit different, actually. For each of the books I’ve published, I’ve been approached by publishers who were interested in signing me to a book deal because of The Simple Dollar. In each case, I had a friend in the legal business help me with negotiations for a very nominal fee, resulting in deals I was very happy with.

I have not started trying to sell any of my fictional works. When I move forward with that, I will be seeking out an agent to help me sell it, as I don’t already have a foot in the door.

That’s really the challenge of it, I think. You need to have a foot in the door to begin with. What sort of special attributes do you have that would be appealing to a book publisher? Do you already have some sort of audience? I think things like this help greatly with selling a book.

Honestly, I am looking more and more at self-publishing as an option, using the Kindle store and other e-book stores as a starter and perhaps progressing to print publishing from there.

Q8: Headaches
I get headaches about twice a week. They’re incredibly annoying and usually wind up with me going to bed really early and wasting an evening. Do you have any frugal tips for dealing with headaches?
- Jennifer

Whenever I get a headache, I drink a bunch of water. I drink at least one tall glass of water and sometimes two tall glasses. I usually eat something small along with the water, but nothing too much. This solves the majority of my headaches, as they seem to be brought along by mild dehydration.

If that doesn’t work, I take a nap. Sleep deprivation can also cause headaches for me, and a nap or an early bedtime takes care of the majority of the remaining headaches.

If these tactics don’t work, try a couple aspirin. If that doesn’t work with any consistency, I’d talk to a doctor.

Q9: Home buying and retirement saving
I am 21 and will graduate this May with no debt or loans. I have accepted a full time job in Delaware for $60,000. I am looking to buy a starter home/townhome/condo around March 2013 since rates are so low right now and since where I live is not a “renting” area. As an added benefit, I will be living at home (most meals included), until I purchase a house.

While I am still researching, I have found that a house around $250,000 fits my budget ( What is your advice on this). Thanks to interning through the school year and summers, I have around $37,000 in savings, $5,000 in mutual funds, a $5,000 emergency fund and a Roth IRA that I am currently contributing $2000/year to, but I will contribute more when I work full time. In addition, my company 401K matches up to 6% plus an additional 3%, which I currently and will continue to max out.

Now that you know my background, I was hoping you could give me advice on a few questions.
- What should I do with the $37,000 in cash that is sitting in my savings account. Since I am planning on using a majority of this towards my down payment next March, I don’t want to tie up the money for too long. I was considering a short term CD may be my best bet.
- What price range of house do you think I should be looking at? I am planning on this being a 5-7 year home, and will likely not marry or start a family in it.
- How much of a down payment should I consider putting down?
- Given my financial situation, how much of my salary do you suggest I contribute to my Roth? This is in additional to my company 401k 
- Jim

The cash is probably in a pretty good place right now. If you’re going to put it in a CD, I would study the CD rates of a lot of different financial institutions before I made that move, and I wouldn’t do it unless I was getting a substantially better return than any of the savings accounts. Right now, CD rates are just about as low as savings account rates.

If you’re going to be single, you should look for a small home, particularly if you’re not going to live there long. You’ll be impacted less by swings in the local housing market, you won’t have space that you’ll just fill up with stuff you don’t need, and it will be far easier to move when the time is right.

I would stick with a 20% down payment, as that will help you to avoid mortgage insurance (an unnecessary expense often pushed onto people with less than a 20% down payment).

I usually suggest people contribute 15% of their income to their retirement. Your current contributions total 9%, so I would contribute another 6% to a Roth IRA. In your case, that’d be $3,600 a year, or $300 a month.

Q10: Handling minor legal issue
A few years ago my husband and I purchased a home for my mother-in-law to live in (in Michigan 250 miles from where we live). We made the down payment and she makes the monthly mortgage payment. However she has recently been in poor health and can no longer live alone. My brother and sister-in-law have moved in with her and have said they would like to purchase the home from us. Their credit is not good so they can not get a mortgage to purchase the home outright. Since we still carry a mortgage on the house can we legally offer a land contract? Do you have any suggestions? I was thinking of Legal Zoom instead of spending the money on a lawyer.
- Jenny

I am extremely wary of this. I would never, ever sign such a long term contract with any family member, let alone one with questionable credit. You’re pretty much begging for a family disaster to happen where no one speaks to each other etc. etc. I have watched such disasters happen multiple times with my own eyes, where previously close relatives resort to communicating solely through their lawyers due to the financial situation.

If you are serious about doing this, I would contact a property lawyer in Michigan and discuss the options available to you. You’re going to want to protect yourself as much as possible here. There may be a rent-to-own type of arrangement that you can work out with them that will reduce your risk (but still includes a lot of risk for hurt family relationships).

This is just a situation I would avoid. Families are more valuable than land contracts.

Got any questions? Email them to me or leave them in the comments and I’ll attempt to answer them in a future mailbag (which, by way of full disclosure, may also get re-posted on other websites that pick up my blog). However, I do receive hundreds of questions per week, so I may not necessarily be able to answer yours.