When buying your first home, the expenses may cause you to look to your Roth IRA for funding. The Internal Revenue Service (IRS) has a special exception for early Roth IRA withdrawals for a first home purchase. Knowing how the rules work can help you to minimize the resulting taxes from using your Roth IRA for a first home.
Up to $10,000 as a Qualified Distribution
If you qualify, you can withdraw up to $10,000 as a qualified distribution from your Roth IRA to pay for your first home. As a qualified distribution, the money comes out tax-free and penalty-free. To qualify for the exemption, your Roth IRA must have been open for at least five tax years. To qualify as a first-time home buyer, you cannot have owned a home for the past two years. If you take out more than $10,000 to purchase your first home, only the first $10,000 counts as a qualified distribution.
When you take an early distribution from a Roth IRA, you remove all of your contributions first. Since you made after-tax contributions to the Roth IRA, your distributions of contributions are tax-free and penalty-free. If your early distribution for your first house does not exceed the value of the contributions, you owe no income taxes or penalties. If you exhaust your contributions, you can still take out your earnings but the earnings are taxable and subject to the 10 percent early withdrawal penalty.
Roth IRAs Under Five Tax Years Old
If your Roth IRA is less than five years old, you cannot take a qualified distribution from it. However, you can still make use of the first-time home buyer exception to avoid the early withdrawal penalty on up to $10,000 of earnings. You must still pay income taxes on the distribution. For example, if you take a $25,000 distribution and you only have $10,000 of contributions in your Roth IRA, the $10,000 in contributions would come out tax-free. The next $10,000 in earnings would be taxable but not penalized because of the exception and the final $5,000 would be taxable and subject to the 10 percent early withdrawal penalty.
Tax Age of the Roth IRA
The age of your Roth IRA is measured in tax years, which differ slightly from actual years. The tax age of your Roth IRA counts from January 1 of the tax year you made your first Roth IRA contribution. For example, if you made your first Roth IRA contribution in 2008 -- regardless of whether you made the contribution in January 2008 or April 2009 -- the age of your Roth IRA is counted from January 1, 2008.