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IRA's - First Time HomebuyerDefinitions

One of the tax benefits enacted as part of the 1997 Taxpayer Relief Act helps individuals to become homeowners as it allows individuals to receive a distribution of up to $10,000 from their IRAs to pay for a first-time homebuyer expenses.

IRA funds distributed to you must be used to pay qualified acquisition costs prior to the close of the 120th day after the day you received the distribution.

TRADITIONAL IRA – With a traditional IRA the distribution for a first-time homebuyer is allowed without the 10% early withdrawal penalty that usually would apply to a withdrawal from a traditional IRA prior to age 59 1/2. However, although the penalty is waived, applicable taxes will still be due on the traditional IRA withdrawal.

ROTH IRA – Should you take the distribution from a Roth IRA to finance a first-time home purchase, the rules are a little different. A withdrawal taken from a Roth IRA for a first-time home purchase would be considered a “qualified distribution” as long as the account has been open for five tax years.  In this case any distribution taken from the Roth for this purpose would be both income tax- and penalty-free.

Under the "Roth Distribution Ordering Rules", the first money out will be annual contribution money. Annual contribution money is never taxed or penalized. Second out would be any conversion money*, which also is not taxed or penalized as long as it has been in the Roth for the required five tax-years.  Last out are earnings. Due to the distribution rules the only money taken from a Roth IRA that might be an issue would be earnings that have been in the Roth for less than five tax-years.  You would still meet the exception to avoid the early withdrawal penalty, but you would not meet the requirement for a tax-free withdrawal, therefore you would owe ordinary income tax on the distribution.

*With a withdrawal of conversion money, prior to the 5 tax-year requirement, you will have already paid the income tax when you made the original conversion…so you will not owe income tax.  And even if your are under age 59 ½, as long as the distribution is for a first home purchase the 10% penalty for early withdrawal would not apply.

DEFINITIONS:
First-time Homebuyer - The definition of a first-time homebuyer is broader than one would think by how it is named.  The law defines first-time homebuyers as someone who has never owned a home…but also buyers who have not owned a home for the past two years.

Also, the first-time homebuyer can be the traditional or Roth IRA owner, his or her spouse, their children, grandchildren, or ancestors.

Qualified First-time Homebuyer Expenses - Qualified expenses include the cost of buying, building, or rebuilding a home and  any usual or reasonable settlement, financing, or other closing costs. The distribution must be related to the purchase of the property and can't be used for other home-related expenses.

$10,000 Lifetime Limit - The $10,000 limit is a lifetime limitation on the amount of withdrawals in total that can be pulled out of all your traditional or Roth IRA’s penalty free under the first-time homebuyer provision.

Disclosure
MEA Financial Services/Paradigm Equities, Inc. does not give tax or legal advice. The comments regarding the law and tax treatment simply reflect our understanding of current interpretations of such laws. Since laws are always subject to interpretation and possible changes, we recommend that you seek the counsel of an attorney, accountant or other qualified tax advisor regarding these matters as it applies to your particular situation.
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