Can I use my IRA for a down payment on a home?

Q: Somebody recently mentioned that they took money out of their IRA for a down payment on a house. Can I do this without getting penalized for an early withdrawal? Also, how far could I go with this -- could I just hold the house as an asset within the IRA, and avoid actually withdrawing the money?

A: Generally speaking, early withdrawals from an IRA are subject to a 10 percent penalty, on top of ordinary taxes. However, there are exceptions, and using money for a down payment is one of those exceptions. Two key things to know about this:

  1. The exception is limited to first-time home buyers. However, the definition of "first-time" is quite loose: it just means you or your spouse have not owned a home in the past two years.
  2. The exception is limited to $10,000.

If you choose this approach, be advised that, while there are no penalties for withdrawing money from the IRA for use in this manner, you may be subject to ordinary income taxes on that money if you deferred those taxes when you made your original IRA deposits. In any case, you'll be giving up the opportunity to defer taxes on future investment earnings that the money might have made if it had stayed in the IRA.

In return, accessing money from your IRA for a down payment might allow you to buy a house sooner. Today's mortgage rates are still among history's lowest, so getting into the market now rather than later could make a big difference. Also, if taking this type of withdrawal allows you to make a bigger down payment, that may qualify you for a lower mortgage rate.

Be advised, though, that using money from an IRA is a withdrawal from the account, and is limited to $10,000. IRS regulations specifically prohibit you from using the IRA itself to buy property in which you live.

For more details, check out IRS Publication 590 on Individual Retirement Arrangements (IRAs).

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