Whether you can make a withdrawal from your profit-sharing plan for a down payment on a home, retirement, or anything else, depends on how the plan is set up by your employer—and on your age, you will otherwise be subject to a tax penalty.
- In general, making a withdrawal from your profit-sharing plan for a down payment (or anything else) before you reach 59½ means you’ll pay a penalty on the funds.
- Employees may also be subject to vesting requirements.
- Other alternatives include taking a loan from the plan, but not all employers allow this option.
The Basics of Profit-Sharing Plans
Profit-sharing plans are set up by employers to help employees save for retirement. A profit-sharing plan is similar to a 401(k) because it is considered a defined-contribution plan and is a tax-deferred retirement plan.
Unlike a 401(k), contributions are made by the employer only and are based on the company's profits, typically either quarterly or annually. Contributions limits to profit-sharing plans are 25% of compensation or $57,000, whichever is less, for 2020 ($56,000 for 2019).
Profit-Sharing Plan Withdrawals
Whether you can use your profit-sharing plan funds for a down payment on a house—or anything else for that matter—depends on constraints that may prevent you from withdrawing the money.
Contributions are discretionary, which means an employer doesn't have to make one if, for example, cash flow becomes an issue in a given quarter or year.
With profit-sharing plans, the employer may impose a vesting schedule that determines how long employees must work at a company to claim their portion of the profit-sharing money.
When you meet the requirements of your company's vesting schedule, you have to meet an age requirement as well. Like a 401(k), a profit-sharing plan imposes a penalty on you if funds are withdrawn before age 59½. If you want to withdraw money from the plan and have not reached the qualifying age, be ready to be assessed a 10% penalty.
You may be able to avoid the penalty if your company's plan has withdrawal exceptions. Compared to 401(k)s, profit-sharing plans are often more flexible about early-withdrawal exceptions. The rules are set by each company, as opposed to being federal regulations imposed by the IRS.
Alternative Ways to Raise a Down Payment
Some profit-sharing plans allow employees to take a loan. The IRS permits you to borrow the lesser of up to $50,000 or half the vested value of the account, though the employer may impose tighter limits. Failure to pay back the loan will subject you to income taxes and the 10% penalty tax on the outstanding balance, which is then considered an early withdrawal.
If you have a profit-sharing plan at a former employer, you can rollover the funds into a traditional IRA. Then, if you are under 59 ½ you can make a penalty-free withdrawal of up to $10,000 to use towards the purchase of a first home. Keep in mind that you'll still owe income tax on the withdrawal.