They're two very common goals as we grow older: save for retirement and buy a house. Unfortunately, the terms "save" and "buy" are contradictory. Can you do both? Maybe, if you enjoy a really good income. But many people find themselves faced with the choice of doing one or the other.
Maybe you've already begun saving for retirement, and you already have an IRA. Can you dip into that money to buy a house? Is it a good idea? This is another contradiction in terms: yes, and maybe not.
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The IRS has no problem with you withdrawing from your IRA to buy a house…up to a point.
The Pros of Using Your IRA
Conventional wisdom says you should put 20 percent down when you're buying a home. That can add up to a lot of money – $40,000 for a $200,000 home. You might not have that much cash on hand, but you've got that IRA sitting there and you're still a long way from retirement.
The 20-percent rule isn't carved in granite, but it can save you from having to pay for private mortgage insurance. Lenders often require this type of insurance if you put less money down, and the premiums will add to your monthly expenses after you're a homeowner. You can save your budget a little by dipping into your IRA to come up with a 20 percent down payment.
Or you could wait a while and save up that $40,000. But saving 20 percent of the cost of even a modest home can take as long as 6.4 years, according to Zillow, and that's assuming you're earning a decent interest rate on your savings.
Consider also: Are IRAs Considered an Asset
The Cons of Using Your IRA
The bottom line is that you'll be shortchanging your retirement asset if you tap into your IRA for a home purchase. You're spending money that could have earned you more money to enjoy in your retirement years.
Retirement savings vehicles provide for compound interest – you're earning interest on the interest that you've already received in earlier years. So that down payment money isn't $40,000 just sitting there, waiting for you to stop working in your golden years. It's $42,000 after just one year if you leave it in your IRA if it's earning 5 percent annual interest. It's $44,100 after two years, because interest was paid on $42,000 in that second year. You see where this is going. You've given up $4,100 over the course of 24 months so you could buy a home.
Consider also: What Are Assets & Liabilities on a Home Loan Application?
Then There Are Tax Issues
The IRS has no problem with you withdrawing from your IRA to buy a house…up to a point. You can't take that entire hypothetical $40,000 from your retirement account. You're limited by law to taking just $10,000 if you want to avoid a 10 percent tax penalty and you're younger than age 59½ – taking more money from your IRA could cost you. You'll have to claim the withdrawal as taxable income in the year you take it, too, so you could end up being hit with a walloping tax bill in addition to losing that compound interest.
And you have to qualify for this tax break. You must meet the IRS definition of a first-time homebuyer, although this isn't quite as prohibitive as it might sound. It just means that you had "no present interest in a main home" for the last two years. You must also close on your home purchase within 120 days of the time you take the withdrawal from your IRA.
Consider also: Budgeting for Retirement
You might consider buying less than your dream home right now, particularly if this is your first home. Maybe take $20,000 from your IRA rather than $40,000. Some of your IRA money would still be growing for you, and some of it could put a roof over your head.
Another alternative might be to look into some of the many government programs that can help with closing costs and other hurdles that can come with buying a house so you won't have to take quite so much from your retirement savings.
Definitely don't make the choice without speaking with a professional financial advisor first.
- Capital One: Can I Use My Retirement to Buy a House?
- Internal Revenue Service: IRA FAQs – Distributions (Withdrawals)
- Internal Revenue Service: Publication 590-B (2020), Distributions From Individual Retirement Arrangements (IRAs)
- Consumer Financial Protection Bureau: Considering an Early Retirement Withdrawal? CARES Act Rules and What You Should Know
- SoFi: Should You Use Your Roth IRA to Buy Your First Home?
- Zillow: It’s Harder to Save for a Down Payment, But Today’s First-Time Buyers Have Some Unique Opportunities