Homebuying can be stressful, but even more so for those doing it for the first time. The healthy housing market, combined with low mortgage interest rates (despite the Federal Reserve's plan for rate hikes), makes now a good time to buy a home, says Christine Benz, director of personal finance for Morningstar, in a new column.
Ideally, Benz says, buyers should "fund a home purchase with non-retirement assets — money held in a taxable brokerage account." And the need to dip into retirement savings might be a "red flag" that a home purchase is unaffordable, she writes.
However, especially for younger people, retirement savings may be the only option to fund a down payment. Plus, some types of retirement accounts allow withdrawals for first-time home purchases, Benz points out.
So from "least bad" to "very worst," according to Benz, here are four ways to tap retirement savings to fund a home purchase.
1. Roth IRA
Of retirement accounts, this is the best type to withdraw from, Benz writes, "because you can withdraw your own contributions (no investment earnings) for any reason without incurring taxes or penalties." Taxes have already been paid on these contributions.
If withdrawing earnings on the Roth IRA, there are certain "strictures" especially if you're younger than 59 ½. "However, if you've had the money in the Roth IRA for five years or more but you're not yet 59 ½, you can tap the investment-gain piece of the Roth IRA without penalties or taxes under certain circumstances, including if you're making a first-time home purchase."
The limit for first-time homebuyers is $10,000, she notes.
If the Roth is less than five years old, she points out, the withdrawal will be taxed — if someone is in a 25% tax bracket, withdrawing $10,000 means a reduction to $7,500 once taxes take their bite.
2. Traditional IRA Withdrawals
Those withdrawing before 59 ½ can avoid the 10% early withdrawal penalty, Benz says, if the assets, up to $10,000, are used for a first-time home purchase.
