Can you make an IRA withdrawal to buy a home?

If you’re saving up for a house, you may be wondering if you can withdraw some funds from your individual retirement account, or IRA, to put toward the purchase. The easy answer to this question is yes: Per IRS rules, you can withdraw funds from your traditional IRA anytime, for any reason, including to use as a down payment on a home. However, there may be a significant penalty if certain circumstances are not met.

It all begins with the reason you put money in an IRA in the first place: to save for retirement. To encourage retirement savings, the IRS lets you put money in a traditional IRA before paying taxes. The funds are allowed to grow tax-deferred until you reach the age of 59½, at which point you can withdraw the money and pay whatever taxes are due (in many cases, at a lower rate than you would have paid years earlier).

To discourage you from withdrawing your money before you retire, the IRS imposes a 10 percent penalty on any funds you withdraw before age 59½. There are, however, exceptions to that rule, and one of them is if you are buying a home for the first time.

IRA withdrawal for home purchase

If you are 59½ or older, you can withdraw funds from your traditional IRA for any reason without penalty. If you are younger, in order to withdraw funds penalty-free, you’ll need to qualify for an exception. For the homebuying exception, you need to be a first-time homebuyer as defined by the IRS, which means someone who has either never owned a home or hasn’t owned a primary residence for at least two years.

“If you qualify, you can withdraw up to $10,000 from your traditional IRA to buy, build or rebuild a [first] home,” says Derek Sall, founder of the website Life and My Finances. “If both you and your spouse have IRAs and meet the qualifications, you can actually both withdraw the $10,000, which means a total of $20,000 for your home down payment.”

Other exceptions to the 59½ rule include if you’re the beneficiary of an IRA whose owner has passed away, if you become terminally ill or if you use the funds to cover the cost of medical insurance during a period of unemployment.

Can I use my IRA to help buy a house?

As a first-time homebuyer below age 59½, you can withdraw funds from a traditional IRA or a Roth IRA to help with the home’s down payment or building costs. Home purchase withdrawals from both types give you 120 days to use the funds and come with a $10,000 lifetime limit. With a traditional IRA, the $10,000 limit applies to all withdrawals, but with a Roth IRA, the limitation applies to earnings only (not contributions).

What about my 401(k)?

You can also use a 401(k) account for a home purchase. Depending on how your plan is structured, you may be able to take out a loan of up to 50 percent of your vested balance, up to a maximum of $50,000 in 12 months. Loan proceeds are not taxed, and there is no 10 percent early withdrawal penalty, making this an interest-free loan.

Most 401(k) loans must be paid back in 5 years, although if the loan is for a home purchase, it might be able to be extended. Since 401(k) loan payments typically begin immediately, you must be sure you can handle both a mortgage payment and a 401(k) loan payment along with all your other bills before taking out a 401(k) loan.

Should you make an IRA withdrawal?

Just because you can withdraw funds from your IRA to purchase a home doesn’t mean you should. “Retirement funds are for retirement,” says Sall. “Most of us aren’t saving enough there anyway, so it’s best to leave this money alone and use it for its intended purpose.”

That’s not to say there aren’t pros and cons to using retirement funds for homebuying, and there may be circumstances where the advantages outweigh the disadvantages.

Pros

• Faster path to homeownership: If withdrawing that money is the only way you can afford to buy a house at the moment, the opportunity cost may be worth it to you.
• Early withdrawal possible: Even if you are not yet 59½, so long as you don’t withdraw more than $10K and put that money toward buying your first home, you will not be subject to the 10 percent penalty.
• No penalties if you’re 59½ or older: If you’re past the age of 59½, there are no penalties for withdrawal.

Cons

• $10,000 lifetime limit: Once you’ve withdrawn that amount for a home purchase, you can never exercise that option again. Although if you are married and your spouse also qualifies, you can each access $10,000 for a total of $20,000.
• Withdrawn funds can’t be replaced: Money withdrawn from your IRA early can’t be put back in. That means you lose out on the earnings it could have made you — for example, over 30 years, that $10,000 at 7 percent interest would earn more than $66,000 in interest.
• Income taxes still apply: “Watch out for taxes on these withdrawals,” says Sall. “While you won’t get hit with the 10 percent penalty, you will still owe taxes on the withdrawals since you didn’t pay tax on the money going in. This could mean your $10,000 withdrawal becomes something more like $7,000.”

Alternatives

If you’re not sure if you can afford a home without a financial boost, there are options beyond drawing on your retirement funds. “Your future self will thank you for not touching your IRA,” says Sall. Here are some alternatives to consider.

• Down payment assistance programs: Most states and even cities offer financial assistance that can help cover down payment and closing costs, especially for first-time buyers.
• Gifts or loans from family: A cash gift or no-interest loan from a generous family member can go a long way, if it’s an option.
• Smaller down payments: Not all mortgages require the traditional 20 percent down payment — if you qualify, many types of home loans can be had for 3 percent, 3.5 percent or even zero down payment. Shop around for a lender that offers more affordable loan products you might be eligible for.
• High-yield savings accounts: As you save up, keep your money in a high-yield account rather than normal savings or checking. Why not let it earn you more in interest while you wait until you’re ready to buy?

Next steps

It’s smart to seek advice from a trusted financial planner before tapping funds in any retirement account, including IRAs, for non-retirement purposes. Tax laws are complicated, and you don’t want to wind up with any surprises from the IRS.

Once you’re ready to start house-hunting, be sure to work with a knowledgeable local real estate agent. An agent’s expertise can be crucial in helping you find the right home at the right price — and they know market details and buyer tips that you probably don’t, especially if you’re a first-timer.

FAQs

• How much can I withdraw from my IRA to buy a house?

  If withdrawing from a traditional IRA, there is a $10,000 lifetime maximum withdrawal. This money can be withdrawn without incurring the 10 percent early-disbursement penalty, even if you are younger than 59½, so long as it is put toward the purchase or build of your first home.
  

• What penalties will I face if I withdraw from my IRA too early?

  With a traditional IRA, you will pay regular income taxes on any withdrawal, whether early — meaning before you’ve turned 59½ — or not. If you withdraw funds early that do not qualify for an exception, you will also pay a 10 percent penalty tax on the full amount of the withdrawal. First-time homebuying is an exception: You may withdraw up to $10,000 to buy or build your first home without incurring the penalty.
  

• Can I use a traditional IRA or Roth IRA to buy a house?

  You can, yes. But it must be your first home (or your first primary residence in at least two years), there is a $10,000 lifetime limit, and there may be penalties for withdrawing early. For Roth IRAs in particular, it also makes a difference whether you withdraw contribution funds or earnings. In addition, it’s smart to consider all the alternatives before using retirement funds for purposes other than retirement.