Property Manager · Moraga, CA · Member since 2012 · 27 posts · 2 votes
I am a real estate investor in California, using a C-Corp as my investment vehicle, funded by my 401K.
I am interested in leveraging my investments by seeing if I can take cash out of a cash positive residential rental property and use that for investment in another property. In checking with Wells Fargo I am being told they will not allow leveraging of investment properties within a C-Corp. If this is industry practice, then it appears that a C-Corp is not able to leverage real property investments (assets) for additional investments. Seems odd to me.
Has anyone else found the same issue and if so, how are you able to overcome it and leverage your funds?
First question, how did you use your 401k to set up the C-Corp? Did you use the ROBS strategy and have your C-corp adopt the plan?
As for leveraging property, I've been told by friends in the banking world that they basically want a direct line to the leveraged property, not just assurances from a balance sheet. I had a friend who recently lost out on a business opportunity because he had no assets to leverage and secure with a mortgage, even though the business venture is sound and profitable from day one...and he was putting 20% into the business himself and getting 10% carried by the seller. The bank wants a security on the property or asset in case anything goes wrong, and a C-corp provides you with more protection than they would care to allow (i.e. very little personal liability at stake).
Banks are strange, and I just try to avoid them whenever possible. Why not seek out other private investors and have them sign a note over to you and go that route? Or, try getting other folks their own SD 401k or IRA, and have them cash you out for either equity or a promissory note.
I created a self-directed 401k and then "directed" the funds to be invested in buying the stock of a C-Corp I set up. My 401K owns 95% of the stock and I own the other 5%. This was originally done to buy a franchise which I then sold 18 months later for a 20% gain.
The advantage I have with this vehicle is the the C-Corp can have expenses and working capital that I can personally direct. This allows me to take a payment/salary during the year on the returns of the investments, i.e. generating immediate cash flow, instead of just making passive investments that flow back into the 401K. The exit strategy will be to sell the C-Corp assets and have the proceeds flow back into the 401K as well as annual 401k contributions. It requires strict IRS compliance rules, so if you are interested I suggest you reach out to a CPA or other professional for advice and do not take my perspective as your only perspective.
Also, thanks for the C-Corp funding response. Knowing banks, and that the are risk averse, I can see they want a steady cash flow to pay them regardless of if I ever make $, lol. Guess I will need to build the business cash flow before I seek their capital.
Leverage can be difficult without a personal guarantee. That is one of the advantages of the ROBS structure. You can be a shareholder yourself which means you have the ability to give a personal guarantee for the corporation. This can help you access leverage. Otherwise you would be looking at large down payments using non-recourse loans which in and of themselves are difficult to get.
Once you establish a good banking relationship with a local bank you may find it could get easier.
ROBS is a Rollover as a Business Startup. Essentially what you did in order to purchase the franchise using the C-corp funded by your 401k. Have you since opened a 401k plan belonging to the C-corp? You as an employee can then contribute to the 401k and receive matching contributions. Another thing to consider is a possible pension plan.
Steven Hamilton II
Yes, created the self directed 401k and Profit Sharing Plan, created the C-Corp and had the 401k make the investment in the C-Corp per IRS guidelines. Now I just need to generate cash flow in the C-corp so that I can make contributions to the 401k and profit sharing. I am finding that maybe trying to get leverage within the C-corp for funding will be difficult unless I find another business to buy that generates cash outside of the real estate. I am considering coin laundries.
Appears this is a vehicle you are familiar with. Any other suggestions?
According to my financial advisors, it is not possible to use 401k funds for active investments like a franchise, or real estate using an LLC. Instead the funds must be in a vehicle where the profits do not flow directly into the manager as in an LLC. Instead it must flow to a stock owner and the funded C-Corp must follow IRS reporting qualifications including annual valuations, etc. Then from within the C-Corp it may be advisable to hold investments in separate sub-entities for additional protection, and based on cash flow to support such entities. If others can provide a better explanation, please add to this. Thanks,
PS, I also am a Managing Partner in a health care consulting firm which could be used to make additional investments if needed.
Simply put your financial advisors are wrong. Mostly because a lot of them prefer that you invest in their brokerages. Your 401k can indeed own an LLC.
An LLC is a disregarded entity unless elected to be taxed otherwise. The LLC can also invest in partnerships, and corporations. The only issue is S-corporations. Your 401k cannot invest in an S-corp.