Q:

Subject: Roth IRA Question / New Home Exclusion

Kerry, thanks for your help on a # of subjects I have found on your website. 

 

Quick question about using Roth IRA contributions towards a purchase of a new home.  I believe I have read that an individual can w/draw (tax free) money contributed towards a Roth IRA, capped at $10K/ea, used towards the purchase of a 1st home.

I've also read that a 1st time homebuyer isnt really a 1st timer, just the 1st time in the last two years.  How do you define 2 years?  From closing date to closing date, or tax years?  What if the 2nd purchase is being built and you have a construction loan and a mortgage?

 

Any idea why there is this "loophole" for the not really 1st time home buyer?

My wife and I will have rented for just over 1.5 yrs when we think our home will be built and ready to close and the extra $20K would be a nice addition to the downpmt.

 

Any ideas?

 

Thanks again for your help.

A:

This is the exact kind of issue that you should be discussing with your own personal professional tax advisor because it seems that you are very unclear on how Roth IRAs function. 

In most cases, because it was not deductible from your 1040 at the time you deposited it, the money you contributed to the Roth can be withdrawn at any time without any income tax or early withdrawal penalties being applicable. 

The taxes and penalties for early withdrawal are applicable on the earnings that have been generated by the Roth IRA account, if those are taken out prematurely.  There is a five year minimum holding period for Roth IRAs that affects their taxation.

The first time home-buyer exception to the early withdrawal penalty is often misunderstood in regard to several factors.  First is the fact that the withdrawal from conventional IRAs is still subject to normal income taxes, even if it qualifies for the exception to the early withdrawal penalty.  This is also the case for withdrawals from Roth IRAs made in less than five years after the Roth was opened.  Withdrawals of earnings after five years that are used for a new home purchase by a qualifying first time home-buyer are tax and penalty free, up to $10,000 per person. 

The $10,000 per person exclusion is for an entire lifetime.  

The time frame for qualifying as a "first time home-buyer" is very specific.  You must have had no ownership interest in a residence within 24 months prior to the actual withdrawal.  So, if you sold your previous home less than two years prior to the withdrawal, the exception does not apply.

The other requirement that confuses many people is the fact that the withdrawn money must be actually spent on the home purchase within 120 days after it was removed from the IRA account.  This means that you don't want to take it out too soon prior to the actual purchase.

These are some of the specific points that you should review with your own personal professional tax advisor.  From the way you worded your questions, it could very well turn out that, even though you won't qualify as a first time home-buyer by purchasing in 1.5 years after your previous home was sold, you may be able to withdraw enough of your actual Roth IRA contributions tax free to make a dent in your down payment, since it sounded as if you were under the impression tat those withdrawals would be taxable.

Good luck.

Kerry Kerstetter

 

- posted by Kerry M. Kerstetter, MBA~CPA~ATP~ATA @ 6/07/2006 09:48:00 AM Send this post: