By Lisa Marie Conklin

May 11, 2023

Photo by Thgusstavo Santana:

Saving up for a down payment is usually the biggest hurdle for first-time homebuyers, especially when you’re feeding a healthy chunk of your paycheck to fund a 401(k) for retirement.

Add living expenses to your monthly nut, and you likely don’t have much left to build a down payment reserve.

But what if you lowered your contributions to save for a down payment? Is borrowing from your future to pay for today’s home risky?

The answer isn’t cut and dry. And even temporarily decreasing the money you funnel into a 401(k) can affect your retirement plans down the road. So to help you decide whether to build a down payment or save for retirement, here’s what to consider before lowering your contributions.

The lowdown on 401(k) basics

Several factors will affect your decision to lower the money you put toward retirement.

First, you’ll want to consider your age, life stage, and tax bracket to ensure you’re building a firm financial foundation.

“And review your expenses and make sure that you are spending money in a way that supports your goals,” says Angela Dorsey, a certified financial planner with Dorsey Wealth Management.

Having a financial goal in mind might mean a staycation versus a week in Europe and cutting other nonessentials like eating out several times a week.

Do you have an employer match?

The specifics of 401(k) plans vary widely, but typically, employers match a percentage of employee contributions up to a specific portion of the total salary.

So let’s say you earn $80,000 a year and your employer matches 100% of all your contributions up to 4%. The max amount your employer would match in this scenario would be $3,200. Any additional funds you contribute over 4% are unmatched.

If you decide to scale back contributions temporarily or for a more extended period, be sure to hit that employer match benchmark.

“In all circumstances, a person should make sure they contribute enough to get the employer match,” says Dorsey. “Not doing so is leaving money on the table.”

How much do you make?

One of the perks of a 401(k) is that you don’t have to pay taxes on matching contributions until you withdraw them in retirement.

But if you decide to decrease your contributions and pocket more of your paycheck, you’ll be in a higher tax bracket. And that might defeat the purpose of saving for a down payment.

“If you are a high-wage earner, you may not want to lower 401(k) contributions too much because it will increase what you pay in taxes,” says Dorsey.

How much house can you afford?

You might want to slash your 401(k) to nab that perfect, pricey home. But reducing your 401(k) savings could leave you worse off in the long run than sticking with an affordable home.

Why? Drastically reducing your contributions to pay for higher housing costs could hinder your ability to return to your previous contribution level. In other words, if you have high home costs, you’ll have less cash to put into your 401(k).

So to find how much house you can afford, figure out how much you can swing for a monthly mortgage payment with a mortgage calculator.

“Include property taxes, homeowners insurance, and mortgage insurance in addition to principal and interest—and work backward from that to figure out how much house you can afford,” says Kate Wood, a home expert at NerdWallet.

How much down payment do you need?

How low you should decrease your contributions also depends on how much down payment you need.

“So many first-time buyers believe that a 20% down payment is a requirement when, depending on your loan type, the required down payment can be as low as 3%,” says Wood.

And while you’re researching, also look into local and state down payment assistance programs.

“Once you know what type of home loan you’re planning to use, you can sort out how large your down payment needs to be,” says Wood.

The bottom line

If you can ride it out, you might want to lengthen your homebuying time frame or find another source of funds and keep your money earning compound interest in your 401(k), says Wood.

The earlier you start saving for retirement and matching your employer contributions, the longer you have that compound interest building up your nest egg.

But suppose you decide to dial back your contributions temporarily. In that case, Dorsey advises doing it in your 20s and 30s while still hitting the employer match and stashing the money you’re not putting in the retirement fund into a high-yield savings account.

“Then when you get a house, start the process of increasing your contribution percentage each year or with each pay increase,” says Dorsey.