First Time Homebuyer and IRAs

A first home?
Today TaxMama® hears from Emily in the TaxQuips Forum with an excellent question. “I’m 35 years old and taking money out of an IRA for a down payment on my house. I am not a first time homebuyer. This will be my primary residence. Should I roll my IRA into a ROTH IRA before taking the funds out? Or just take the funds straight out of the IRA? I have a separate 401k where I’m investing heavily each month.”

 

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Dear Emily,

First of all, are you sure you’re not a first time homebuyer?

That doesn’t mean you have never owned a home. It means that you haven’t owned a home during the last 2 years. [Sec 72(t)(2)(F) ] “the 2-year period ending on the date of acquisition of the principal residence”

If you do happen to qualify, then you have a once in a lifetime “get out of penalty free” card to avoid the 10% early withdrawal penalties when you take the money from your IRA. (and the state’s penalty). You still have to pay the taxes on the $10,000 you draw – for IRS and state.

Now…the money must come from an IRA, not a 401k. So if you qualify, use the money in your IRA. Do not roll it into a Roth IRA.

However, there’s a better option. You are putting a lot of money into your 401k. If you plan to stay with this employer for the next several years – borrow the money from your 401k instead. The benefits?

a) You get the money tax-free. So you get the benefit of ALL the money. (They would withhold 20% of your IRA withdrawal before you get it.)
b) You pay yourself back at a low interest rate – so you don’t deplete your retirement account.
c) AND you can get up to $50,000 or 50% of the value of the account, whichever is lower.
d) You don’t have to worry about whether or not you qualify for the first-time homebuyer rules.

The only issue is – does your employer’s plan allow you to borrow? Most do. So find out.

Incidentally, if you have the 401k invested in securities you particularly like that will have to be sold – use the funds in your IRA to re-buy those securities so you don’t lose the earning power.

And remember, you can find answers to all kinds of questions about buying a home and other tax and business issues, free. Where? Where else? At www.TaxMama.com.

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