BiggerPockets

The Self Directed Ira And Tax Free Real Estate Investing

Self-Directed IRAs - The Little-Known Secret That Allows Real Estate Investors to Create True Wealth

Many of America's 45 million households with I.R.A.'s stick with stocks and bonds, but an increasing number are switching to real estate, hoping for more lucrative returns. Investors have always been allowed to hold real estate in I.R.A.'s.

Yet few people seemed to know they could, and financial institutions had little profit incentive to recommend something other than stocks or mutual funds. Investors have been rethinking their strategies as the increase in home values surpasses returns on Wall Street.

If you are a seasoned real estate investor, or you're just looking to diversity your retirement portfolio, the combination of real estate and your IRA can be very powerful and lucrative. If you have substantial assets in your IRA and who take the next few minutes to master the guidelines, you can utilize the stash of money in your I.R.A to compound your wealth at a much faster rate.

Seven Things Every Real Estate Investor MUST Know about Investing in Real Estate with a Self Directed IRA

1) Your IRA Cannot Purchase Property Owned by You or a Disqualified Person: "Can my IRA purchase a property that I own?" The answer is always no.

IRS regulations don't allow transactions that are considered "self-dealing," and they don't allow your self directed IRA to buy property from or sell property to any disqualified person, including yourself.

2) You Cannot Have "Indirect Benefits" from Property Owned by Your Self-Directed IRA: Can your self directed IRA purchase a vacation home for occasionally use? Can you rent office space for yourself in a building that your self directed IRA owns?

No. The purpose of the IRA is to provide for your retirement at some future date. It's not intended to benefit you (or any other disqualified person) today. If your IRA engages in a transaction that, in some way, benefits you or a disqualified person, this is considered an "indirect benefit."

3) Real Estate IRA Investments Are Uniquely Titled: You and your IRA are two separate entities. The investment needs to be titled in the name of your IRA—not in your personal name.

4) Real Estate in an IRA Can be Purchased without 100% Funding from Your IRA: You can purchase property in more ways than just an outright purchase of the full amount from your account. These other options include using undivided interest and partnering with others.

5) IRA Investments that Use Financing Must Pay UBIT: Your self directed IRA can purchase real estate using financing as long as the loan is non- recourse. If you do use financing, unrelated business income tax (UBIT) is due.

6) Real Estate IRA Expenses Must Be Paid from Your IRA: All expenses related to property owned by your self directed IRA (maintenance, improvements, property taxes, condo association fees, general bills, etc.) must be paid from your IRA.

7) Real Estate IRA Income Must Return to Your IRA: All income generated by property owned by your self directed IRA must be paid into your IRA

Fees Associated with an SDIRA

Fees will vary from custodian to custodian, but they are usually workable for the investor. Many range from $50 for the set up fee to fixed amounts depending on the amount in your portfolio.

For example, a portfolio of less than $100,000 could mean just $360 in fees. There are many well known, reputable custodians such as: Equity Trust, Securities Trust and Pensco Trust. Be sure to do your homework and research each company first.

Here's a recent question I've recently received about Roth IRAs:

Q2 "Let's imagine the following scenario: come across a person who wants to sell his retail store. Let's say he sells widgets. So, my SD-Roth IRA buys the LLC (Widgets, LLC). I know that in this type of setup, I cannot run the business, so I hire the current store manager to be the required 3rd party manager. Widgets, LLC makes $1000 in gross sales. ?-$500 for rent ?-$300 for payroll ?-$100 for utilities, inventory, etc.

That leaves $100, which the manager then sends to the SD-Roth IRA.In this scenario, would that mean that the LLC itself shows 0 profit, and at the end of the year, is only liable for the $800 annual fee and payroll taxes on the one employee/manager? Or am I missing something?"

MY ANSWER
UBIT (Unrelated Business Taxable Income) applies even in a ROTH IRA. The governing factor is that the IRA is now engaged in a business that does not fit with its tax exempt purpose. A 35% rate so this needs to be planned carefully.

Comments

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  Kathy V. — 8 months ago

  I've done a lot of research on this topic. What I've found is the fees, to start, may be small but then I've been told that some charge for every check written too. That could get expensive. Am I wrong?

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  Ebere Okoye — 8 months ago

  I have had conversations with Satchie Carvnous from a trust company on this whole issue of fees and she said, "That is true of some custodians. Every custodian or administrator is different.  This is where Security Trust excels - we decided to charge a quarterly fee for management which cancels all transaction fees, checks included and ACH batching to transfer funds. We also provide legal counsel if and when needed at no additional fee.  We saw a lot of companies that were initially inexpensive to set up an account but then the fees came into play.If they have under $50k, it's $74 a quarter, over $50k its .245% per quarter or .98% a year.  If they have roughly $390k and above, they're paying less than .98% because we have an upper limit charge per quarter. The lower minimum is low because people may open a Roth or a Traditional with us.  I compared this to my old UBS account and they charged me 1.6% a year and either front loaded or back loaded 4-5% as well.  I see clients paying even more fees than that on brokerage accounts.  Here's what that quarterly fee covers:         - quarterly Statement of Profit & Loss and a Balance Sheet and online access     - unlimited calls to our office for questions     - no additional transaction fees at all     - legal counsel, if needed     - bookkeeping and recordkeeping     - state filings for the LLC     - custodial fees paid     - asset transfers, purchasing or selling an asset, or taking a distribution     - annual valuation of the IRA assets     - filing IRS forms (Form 5498)     - custodian holds the membership interests of the LLC     - funds transferred from the account within hours of receipt of the request ('checkbook' control)" Hope that helps! Ebere