Individuals wanting to purchase a home frequently look to their IRA accounts as a source for the down payment. Although tapping one’s retirement funds is generally not a wise thing to do, many homebuyers do it anyway. In these situations, there is not much that can be done about the taxability of an IRA distribution, which depends upon whether it is a Traditional IRA, which may or may not have a basis created by non-taxable contributions, or a Roth IRA. However, there is a somewhat complicated exception that can avoid the 10% early withdrawal exception on a portion of the withdrawal.
First-Time Homebuyer Exception Qualifications - To qualify for treatment as a first-time homebuyer distribution, the distribution must meet all the following requirements:
b. It must be used to pay qualified acquisition costs related to the home’s purchase before the close of the 120th day after the day the distribution was received.
c. It must be used to pay qualified acquisition costs for the main home of a first-time homebuyer (defined later) who is any of the following:
- Taxpayer or taxpayer’s spouse.
- Taxpayer’s or spouse's child or grandchild.
- Taxpayer’s or spouse's parent or other ancestor.
First-Time Homebuyer - Generally, the taxpayer is a first-time homebuyer if the taxpayer had no present interest in a main home during the 2-year period ending on the date of acquisition of the home for which the distribution is being used to buy, build, or rebuild the home. If the taxpayer is married, the taxpayer's spouse must also meet this no-ownership requirement.
In fact, the home does not even need to be the taxpayer’s own home, since the exclusion also permits the taxpayer to use this special exclusion for the purchase of a first-time home for the taxpayer’s or spouse’s child, grandchild, parent or other ancestor so long as the home meets the definition of “first home” for the relative. Thus, the exclusion permits a taxpayer to use the exclusion to help a qualified relative.
Maximum Amount - If married, this exception applies to both spouses separately; thus, each could withdraw up to $10,000 ($20,000 combined) from their individual IRA accounts and avoid the early withdrawal exception. This is, however, a lifetime exclusion so when added to all the taxpayer’s prior qualified first-time homebuyer distributions, if any, the total distributions cannot be more than $10,000.
Date of Acquisition - The date of acquisition is the date that the taxpayer:
- Entered into a binding contract to buy the main home for which the distribution is being used, or
- Began building or rebuilding the main home for which the distribution is being used.
Failed Purchase – If the purchase cannot be completed within the 120-day time period, the taxpayer may re-contribute the funds to the IRA account as long as 120 days have not passed since the withdrawal. In other words, for first time homebuyers the 60-day rollover period is extended to 120 days. In addition, the rollover is disregarded for purposes of the limitation of one rollover every year. (Section 72(t)(8)(E))