Just because you can, doesn't mean you should
- You can withdraw money from your Roth IRA to help pay for a house.
- In certain situations, you can avoid paying taxes and an early penalty fee.
- If you use funds from your IRA, you’ll lose out on years of compounding tax-free growth—so think twice before you do it.
IRAs are designed to help you save for retirement. To encourage that, the Internal Revenue Service (IRS) charges a penalty if you withdraw funds from your IRA before you turn 59 ½. Still, there are situations where you can take money out of your Roth IRA without owing the penalty, even if you aren’t yet 59 ½. One way is to use your Roth IRA to buy a house. The IRS allows it, but is it a good idea?
Special First-Time Homebuyer Clause
According to Roth IRA rules, you can use money from your Roth IRA to pay for a house if:
- you’re considered a first-time homebuyer,
- you first contributed to your Roth IRA at least five years ago,
- you withdraw a lifetime maximum of $10,000, and
- you use the money to buy, build, or rebuild a home.
If you meet these rules, the withdrawal counts as a qualified distribution and you will avoid paying income tax and early withdrawal fees.
Who Is a First-Time Homebuyer?
Surprisingly, you can qualify for this benefit even if you’ve owned a home in the past. Here’s why.
The IRS considers you a first-time homebuyer if “you had no present interest in a main home during the 2-year period ending on the date of acquisition of the home which the distribution is being used to buy, build, or rebuild. If you are married, your spouse also must meet this no-ownership requirement.”
The date of acquisition is the date you enter into a contract to buy a home, or when you start building or rebuilding a house (it’s not the closing date). As long as the acquisition date is at least two years later than the last date you owned a home, you’re considered a first-time homebuyer.
If you’re feeling generous, you can also use the money from your Roth IRA to help out a child, grandchild, or parent who meets the first-time homebuyer definition.
And while the law isn’t clear, a husband and wife may be able to withdraw $10,000 each from their own Roth IRAs to pay for a home.
Withdrawal Rules for Roth IRAs
What if you aren’t a first-time homebuyer, or you want to withdraw more than the $10,000 maximum?
One of the major perks of using a Roth IRA is that you’ve already paid income tax on your contributions. That means you can withdraw all of your contributions at any time—for any reason—without penalty or tax. So if you’ve socked away a lot of money over the past several years into a Roth, you could pull those funds out to aid in your home purchase.
Keep in mind, however, that your earnings have to stay in the Roth IRA until you’re 59 ½, the account has been open for at least five years, or you meet one of the IRS’s exceptions. Otherwise, you may owe taxes and a 10% penalty on the withdrawal.
Is Using a Roth to Buy a Home a Good Idea?
Now that you know you can withdraw funds from your Roth IRA for a home purchase, the next question is, should you?
Unless you specifically opened the Roth IRA to set money aside for a home purchase, you should consider other funding options. If you wipe out your initial investments today, it will set back your retirement savings by many years. There’s less time for compound interest to work in your favor, and your nest egg ends up being smaller in retirement.
You also have only a limited amount that you can save in an IRA each year (for 2019, that’s $6,000, or $7,000 if you’re 50+). You can’t just repay everything you took from your Roth if you get funds later.
If you need to tap an IRA to fund your home purchase because you have no other options, reconsider the timing of your home purchase. It probably makes better financial sense to wait until you’ve saved the down payment—while leaving your retirement savings intact.