Penalty-free IRA Withdrawals for First-time Homebuyers
Are you looking for a new home, but are a little short of cash for the down payment and closing costs? A penalty-free withdrawal from your IRA may be the solution to your cash flow problem if you can qualify as a first-time homebuyer.
How to Qualify as a First-time Homebuyer. Your new home does not have to be your first to qualify as a first-time homebuyer. A first-time homebuyer is an individual who has not had an ownership interest in a principal residence during the two-year period ending on the date of acquisition of the principal residence. If the individual is married, the spouse must also meet this two-year requirement. The date of acquisition is the date the individual enters into a binding contract to purchase a principal residence or begins construction of such a residence. So, for the purposes of these rules, the first-time homebuyer is not necessarily someone buying a first home. Rather, the homebuyer (and spouse) must not have owned a principal residence for two years before the new home is purchased to qualify as a first-time homebuyer.
Waiver of the Early Withdrawal Penalty. IRA withdrawals used for qualified first-time homebuyer expenses are not subject to the normal 10% premature distribution penalty for taxpayers under age 59½. However, your entire distribution, or a portion thereof, may be subject to regular taxation even though the penalty is avoided. Qualified first-time homebuyers distributions are withdrawals of up to $10,000during the individual’s lifetime that are used to pay the costs of acquiring a principal residence for a first-time homebuyer. For married taxpayers, each spouse qualifies for up to $10,000 in penalty-free withdrawals, but each spouse must withdraw the funds from their own individual IRA accounts.
Using the Penalty-free Funds. The penalty-free distribution must be used within 120 days of receipt to pay costs (including reasonable settlement, financing, or other closing costs) of acquiring, constructing, or reconstructing the principal residence of a first-time homebuyer who is the individual, the individual’s spouse, or a child, grandchild, or ancestor of the individual or individual’s spouse.
The 10% penalty tax on early withdrawal does apply to any amounts not used to acquire the home within
120 days unless the 120-day rule cannot be satisfied due to a delay in the acquisition of the residence. In that case, the individual can avoid the 10% penalty by putting all or part of the amount withdrawn into the same or a new IRA before the 120-day period expires.
Qualifying Accounts. The first-time homebuyer withdrawal rules apply to traditional and Roth IRAs, but an individual’s $10,000 lifetime limitation is the same regardless of the number or types of IRAs. Withdrawals from a Roth IRA will not always present a penalty problem, because Roth IRA withdrawals are considered to be tax-free distributions of contributions first (on which no penalty would apply). In addition, they are not taxable or subject to the 10% early withdrawal penalty if made more than five years after the individual’s first tax year for which a Roth IRA contribution was made.