Can I Use Funds Borrowed From Investments to Purchase a Rental Property?

by Ciaran John, Demand Media
    You can use 401k funds to buy an investment home.

    You can use 401k funds to buy an investment home.

    If you want to boost your monthly income, buying an investment property could provide you with a long-term source of extra money. You can use the extra cash to fix up your home, go on vacation or to pay down your debt. While you can buy investment properties with mortgages, you can also leverage your investment assets to buy the home. Doing this may save you some cash, but this approach also has some potential pitfalls.

    Brokerage

    If you own securities such as stocks in a brokerage account, you can ask your broker about borrowing against these holdings. In many instances, you can borrow a sum of money equal to the current value of your investment holdings. You can get the loan approved within a day versus a month or more for a conventional mortgage. You still pay interest on the debt but interest rates are usually low compared with other types of loans. However, you could run into problems if your securities drop in value, because when that occurs, you have to repay the loan.

    401k

    Loans from 401k accounts are permissible under federal tax laws. However, the Internal Revenue Service allows employers to decide whether to include loan options in 401k plans. If your plan allows loans, you can borrow the lesser of $50,000, or 50 percent of your vested balance. Vested balances include your contributions, earnings and any of your employer's contributions that currently belong to you. Vesting schedules are often set up so that it takes five years before your employer's contributions become your property. You pay interest on the loan, but the interest goes back into your own 401k account. On the downside, 401k loan terms are limited to five years which could mean some really big monthly payments. You have to pay the loan back if you switch employers otherwise you must pay income tax on the funds and a 10 percent tax penalty.

    IRA

    Technically, Individual Retirement Arrangements do not include a loan option. You can though borrow funds from the account as long as you repay it in 60 days. This will not help you much if you need long-term financing, but you could use your IRA funds as a bridge loan while you await the completion of a mortgage application process. If you withdraw money and fail to pay it back within 60 days, you have to pay income tax on the funds as well as a 10 percent tax penalty. With a Roth IRA, your contributions are made on a post-tax basis. You can withdraw Roth contributions without taxes or penalties to buy an investment home. However, IRAs and Roths grow tax deferred while you pay tax on investment property income. Consider the tax implications before making the withdrawal.

    Certificates of Deposit

    Risk adverse investors often lock up their savings in the relative safety of bank certificates of deposit. You have to pay a penalty to withdraw CD funds prior to the end of the contract term. However, many banks let you borrow money against CDs. The interest rates are usually much lower than on other types of loans. You continue to earn interest on the CD during the loan term which helps offset the loan expense. The bank freezes your access to the CD during the loan term and this means you can take on multi-year CD loans since the CD keeps rolling over at maturity.

    About the Author

    Ciaran John began writing in 1994 with contributions to "The Hourly Press" and "The Sawbridgeworth Observer," and has since written for many online and print publications. He has 12 years experience working for financial services companies as a business banker, lender and investment representative and spent four years working in human resources.

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