With real estate prices at record levels, many people feel priced out of the U.S. housing market. According to Realtor.com, the national median listing price is $405,000 for 2022, up 13.5% from 2021 and up 26.5% from 2020.1

What is a first-time home buyer to do? If you are considering jumping into the market, coming up with a down payment in this environment can be daunting. You may, however, be able to get an assist from your Individual Retirement Account (IRA), if you qualify.

Bear in mind, it is always best to earmark your IRA funds for your retirement. But there is an exception available for a first-time home buyer to withdraw funds of up to $10,000 to help offset the cost of purchasing a home. Usually, if you are under age 59½, and you take a distribution from your IRA, you pay income taxes PLUS a 10% early distribution penalty. But the penalty is waived if you qualify for the first-time home buyer exception.

Who qualifies as a first-time homebuyer?

Surprisingly, even if you had previously owned a home, you could qualify if you haven’t owned a home or had an ownership interest in a principal residence in the past two years. (The two-year period ends on the date of acquisition of the home you are looking to purchase.) For example, say you once owned a home but decided to sell it 10 years ago and to rent instead—you would qualify as a first-time home buyer.

IRA funds can also be used to assist certain family members in purchasing a home, assuming they qualify as a first-time buyer—for example, an individual’s spouse, child, grandchild, or ancestor of such individual or the individual’s spouse.

How to use an IRA to buy a home

  • $10,000 lifetime limit: The IRS allows a withdrawal penalty free of up to $10,000 to buy, build or rebuild a principal residence. The $10,000 is a lifetime limit. Notably, if you and your spouse each qualify as a first-time homebuyer, and you each have your own IRA, you can each take up to $10,000, for a total of $20,000, for the same purchase.
  • Use for qualified acquisition costs: According to IRC Section 72(t)(8)(C), you can use the funds for qualified acquisition costs such as closing costs and financing fees.
  • Applies to IRAs, not 401(k)s: Importantly, the first-time home-buyer exception applies only to IRAs (including SEP & SIMPLE). The first-time homebuyer exception does not apply to distributions from a qualified employer-sponsored retirement plan (i.e., 401k, 403(b), etc.).
  • Use the funds within 120 days: You must use the money to acquire a home within 120 days after the withdrawal versus the usual 60-day deadline applicable for completing an IRA rollover. If your home purchase is canceled or delayed, you can roll the funds back into your IRA.
  • Keep good records to claim the exception: You will need to claim the exception to the 10% early-distribution penalty when you file your tax return for the year coinciding with the IRA distribution. Remember to keep good records in the event the IRS flags your return.

Important: Remember though, that while you will not pay the 10% early withdrawal penalty, your distribution will generally be subject to income tax. And, more importantly, any money you withdraw from your IRA early won’t have the opportunity to grow and compound over time. So, consider how much you have saved for retirement and factor that into your thinking.

PRACTICE TIP: An individual who is eligible to take a distribution from her 401(k) or 403(b) account can have up to $10,000 rolled over tax free into an IRA and subsequently use the funds (now in an IRA) for a first-time home buyer purchase.

What about using a Roth IRA for a first-time home purchase?

  • Roth IRA contributions can be distributed both tax and penalty free at any time, at any age, and without regard to the five-year rule.
  • Earnings are not subject to the 10% penalty for a distribution for a qualified first-time homebuyer.
  • What’s more, if you have satisfied the five-year rule, your distribution will not be subject to income tax. (This rule says that you can withdraw earnings tax free if it’s been at least five years since you first contributed to a Roth IRA.)

PRACTICE TIP: The distribution rules that apply to a first-time home purchase for a Roth IRA do not apply to Roth 401(k) contributions. 

Key takeaways:

  • While an IRA is primarily a vehicle to save for and generate income for retirement, there is an IRS exception that allows a first-time home buyer to withdraw up to $10,000 without penalty to purchase a home.
  • Penalty-free withdrawals for first-time home buyers apply to IRAs, but not 401(k)s or 403(b)s.
  • First-time home buyers can also consider using a Roth IRA, which would be both penalty free AND income tax free if you have satisfied the five-year rule.

Learn more

If you are contemplating using your IRA to fund a first-time home purchase, be sure you understand the financial and tax ramifications and consult with your tax professional. It will be important to keep detailed records to ensure you are in compliance with tax law.