Can You Use Money in a Roth IRA for a Down Payment on a Home?

Roth IRAs offer a unique combination of flexibility and tax benefits. By making after-tax contributions to these accounts, you can potentially get tax-free income in retirement—as long as you satisfy IRS requirements. But what if you want to access the money in your Roth IRA before retirement, and can you use those funds to buy property?

The good news is yes, you can use money from a Roth IRA for a down payment on a home. However, it’s crucial to understand the pros and cons of doing so, as well as some rules that apply to Roth IRA withdrawals. Let’s dive in to see who can pull money out for a down payment, how to get the funds without paying taxes, and more.

Using Money in a Roth IRA for a Down Payment

A down payment is the amount you pay toward the purchase of a home (as opposed to the money you borrow).

You can borrow a substantial amount when you buy property, but lenders typically want you to have some skin in the game. Down payments can also reduce the amount you borrow, which helps you manage interest charges, mortgage insurance costs, and other expenses.

For example, if you want to make a 20% down payment on a $300,000 home, you’ll need $60,000. If you don’t have those funds available in a liquid checking or savings account, you can potentially use money from a Roth IRA. However, that doesn’t necessarily mean it’s a good idea, and you need to satisfy specific requirements to avoid tax problems.

Easy Access to Your Contributions

Roth IRAs are flexible because you can withdraw your regular contributions at any time with no taxes or penalties. So you can take distributions equal to the amount you contributed to a Roth IRA over the years. IRS rules say that the first funds to come out of your account are regular contributions, but if you need more money, you may need to pull from other sources in your Roth IRA—such as any growth in the account.

Taking Earnings From a Roth IRA

You might have earnings left in your account after using up the contributions from your Roth IRA. You can also withdraw those funds, but you need to use caution, especially if you’re under the age of 59 1/2. Those withdrawals can result in taxes and penalties unless you qualify for an exception.

If you’re eligible as a first-time homebuyer and you can satisfy the five-year rule for any earnings you withdraw, you can take up to $10,000 of earnings from a Roth IRA without taxes or penalties. In general, the five-year rule says your IRA must be open for at least five years, but it gets more complicated if you’ve done Roth conversions.

Who Can Use the First-Time Homebuyer Rule?

You don’t necessarily need to be a first-time homebuyer to qualify for this exception. The IRS considers you a first-time buyer if you haven’t had an ownership interest in a home for two years prior to signing a contract or beginning construction on a home. However, these rules can get complicated, so it’s essential to review your status carefully before moving forward.

If you’re married, you and your spouse can each use the first-time homebuyer exclusion (if you qualify). As a result, your household might be able to withdraw up to $20,000 of earnings from Roth IRAs for your down payment.

Pros and Cons of Using Your Roth IRA for a Down Payment

Pros Explained

• Access to money so you can minimize borrowing costs: A primary advantage of using money from your Roth IRA is that you might have significant assets in your IRA. If you don’t have enough money elsewhere, this pool of money can help you get a smaller loan, qualify for the best products, and avoid paying PMI.
• Tax-friendly opportunity to use retirement savings: Withdrawing money from retirement accounts can result in significant taxes and penalties, but Roth IRAs offer a unique opportunity. If you’ve contributed a substantial amount to your account and you qualify for first-time homeowner treatment, you can minimize the tax burden. But if you draw from pretax retirement accounts (besides your Roth), you would likely have a bigger tax bill.
• Potential to buy property sooner rather than later: If you’re having a hard time saving for a down payment, tapping your Roth IRA might open the door to home ownership. That could be helpful when real estate markets are hot and you can’t seem to keep up with real estate prices. But rushing to buy can backfire if prices fall, and stretching your budget could cause challenges down the road.

Cons Explained

• Loss of long-term compounding on retirement savings: When you pull money out of your Roth IRA, it’s not available to invest for long-term growth. While there’s no guarantee that you’ll make money investing, the only reason to invest in the first place is that you expect long-term growth. You lose that opportunity if you take a significant withdrawal, although you might benefit from rising home prices. Plus, if stock markets fall after your withdrawal, it could work out in your favor—at least in the short term.
• Taxes and penalties if you don’t qualify for tax-favored withdrawals: Tax rules are complicated, and you need to satisfy specific requirements to avoid taxes and penalties. If you end up taking a sizable distribution—enough for a down payment—and things don’t work out, you might get a big tax bill. That’s why it’s critical to review your strategy with a tax professional or triple-check everything before moving forward.
• Using assets from accounts with limited opportunities to save: Roth IRAs have annual contribution limits, and if your income reaches certain levels, you might not be allowed to make direct contributions to a Roth IRA. It’s hard to replace money in a Roth IRA, and those accounts are one of the few tools that can provide tax-free income in retirement.

Should You Use Roth IRA Money To Help Buy a Home?

Whenever possible, it’s ideal to save money for a down payment in a separate account specifically earmarked for your next home. That way, you can intentionally budget for each goal individually. Plus, you avoid setbacks that occur when you divert funds from other goals.

When you’re tempted to dip into your Roth IRA, carefully evaluate the decision. For instance, make sure the home you’re buying is one you can comfortably afford. You might find additional expenses (and surprises) after you buy, and if you’re already running low on cash, things could get worse.

That said, sometimes taking funds from your Roth is the right decision. For example, if you’ll come out ahead by buying property, and you have a solid plan to replenish your retirement savings, that’s great. For example, it might make sense to buy if you know that you’ll have a stable job near an affordable home for many years to come. That steady income and housing stability could put you in a good position to save for retirement and other goals.

Alternatives to Roth Withdrawals

Explore all of the alternatives before you make a decision. You might be able to:

• Make a smaller down payment: If you can pay down the debt aggressively, you might be able to reduce your interest costs. Plus, you can potentially cancel the PMI payments as the loan balance declines. Ask your lender what your options are.
• Evaluate the pros and cons of 401(k) loans: If your employer offers one, you might be able to borrow a substantial amount from your 401(k) without immediate tax consequences. However, if you don’t repay the loan (which might be required when you change jobs), the unpaid amount might be treated as an early distribution with taxes and penalties.
• Buy less-expensive property: Any funds you have available outside of your retirement accounts might be sufficient to buy a more modest home. If it makes sense, you can start building equity and move to a more expensive home later. And if home prices rise during that time, you participate in some of those gains.

Frequently Asked Questions (FAQs)