I know this may be a weird question to ask on a real estate forum (Im thinking the vast majority of responses will be pro real estate), but I wanted to get some different perspectives from the BP community.
I currently work a full-time job and I am fortunate enough to be able to max out my pre-tax contribution to my 401k each year. As I continue to listen to the podcast and read about people's success in real estate, I have started to ponder if contributing approximately $20k to my 401k each year is a wise investment or should I start using that money for real estate. I also want to add that I do additional savings outside of my 401k however my ability to invest in real estate would significantly grow if I stopped contributing to my 401k.
For reference: I do contribute to my company's 401k so it is not a self-directed 401k, and I have always been told to at least contribute the bare minimum to get the companies match so I am not leaving money on the table.
Banker · Nationwide · Member since 2020 · 2k+ posts · 1k+ votes
5y
James,
I am no fan of 401K's coming from someone who has had thousands of customers complain how they gave up control of their money to a 401K to only lose all of their money due to bad investments of the funds. You also have no control until you hit 59.5 years of age. Not only that but you have fee's on top of fee's that eat into your money. Real Estate on the other hand offers a long term NOI eventually the mortgages will be paid off and you have a ton of equity and cash coming in every month.
Being able to manage your own money and make good decisions on market, sale price, rental schedule/income. Using the equity to buy more investment properties for the long haul.
I personal do the 401k also and believe in investing in both. You can borrow from your 401k to invest in Realestate and pay back the 401k loan with the profit you will gain from real estate I did that several times and it worked out for me. I also would only take out of the 401k if I am at a gain in the market.
@Craig McLaughlin ooooo golly, that will rack my brain and I have been inundated with finance books. It might have been one of the Rich dad Poor dad ones, potentially one rental at a time, or maybe one of my share ones like Buffetology.... I have just read so many these last months sorry I can't be of better assistance.
Rental Property Investor · Los Angeles, CA · Member since 2021 · 3 posts · 1 vote
5y
@Michael Reiserer
Do you have to be self employed to contribute to self directed 401k? P’s that same as solo 401k?
I’m a W2 employee, maxing it annually to 401k. Looking to retire 5-7 years from RE passive income.
I’m thinking of taking out my 401k, getting taxed but hopefully try to recuperate the money through depreciations. Has anyone done this after thinking RE is better investment than 401k?
Looking for serious guidance from ones who took the leap🙏
Residential Real Estate Agent · Irvine, CA · Member since 2013 · 2k+ posts · 1k+ votes
5y
@James Somers stack up the money in both vehicles. We invest fully in 401K and SEP IRA along with buying investments. You can shelter up to $58,000 for one person by 401K, SEP, Self-direct IRA, Roth, etc. in one year. After all that if you want to put into you can throw money into real estate, or you can throw $58,000 into real estate (for example) and then some money in your 401K.
Awesome insights, I have a 401k from previous employer with over $100k was thinking in the lines of opening an SDIRA to invest in real estate. Would it make sense to open a Solo 401k ?, I am currently employed fulltime and don't own any LLC
Hey Peter,
A self-directed IRA should work just fine for you. The Solo 401k is a better structure, but it does require self-employment activity and you might not be eligible. If you are eligible, here are some of the benefits a Solo 401k offers:
Compared to an IRA, Solo 401k contributions limits are roughly ten times higher
There is no custodial requirement for the 401k
You don't need the additional expense and administration of an LLC to have checkbook control
There is a built in-Roth component whereas IRAs are either traditional or Roth, not both
A spouse can also participate in the same Solo 401k plan
The Solo 401k has additional tax benefits over an IRA when investing into real estate using leverage
The penalties for prohibited transactions are less severe, though it's best not to utilize this benefit :)
If you put in 6% of your paycheck into a 401k and your employer also puts in 6%, then YOU are funding 50% of your retirement. If you put down 20% on a rental property, your TENANTS will be funding the other 80%. Which would you rather have?
This is an interesting way to look at things. I will point out that you can also have tenants funding your 401k or IRA the same way they can create wealth for you outside of these retirement accounts.
You are right. Roth is pre tax but the issue for those doing REP status to lower ordinary W2 income is that you don't get the passive losses from deals that you are investing through any QRP (roth or non roth).
Hi Lane,
Just wanted to clarify for other readers that Roth is actually after-tax, and not pre-tax.
@James Somers stack up the money in both vehicles. We invest fully in 401K and SEP IRA along with buying investments. You can shelter up to $58,000 for one person by 401K, SEP, Self-direct IRA, Roth, etc. in one year. After all that if you want to put into you can throw money into real estate, or you can throw $58,000 into real estate (for example) and then some money in your 401K.
Wow I never knew the $58,000 limit! Thank you for the insight!
Do you have to be self employed to contribute to self directed 401k? P’s that same as solo 401k?
I’m a W2 employee, maxing it annually to 401k. Looking to retire 5-7 years from RE passive income.
I’m thinking of taking out my 401k, getting taxed but hopefully try to recuperate the money through depreciations. Has anyone done this after thinking RE is better investment than 401k?
Looking for serious guidance from ones who took the leap🙏
Yes, the self-directed 401k (aka Solo 401k) does require self-employment. This self-employment activity can be in addition to full time employment, but there must be some form of business to adopt the 401k plan. Note that this business can be an individual doing freelance work as a sole proprietorship. You might want to check with your plan administrator to see if your 401k allows for in-service distributions. This can allow you to invest your 401k into real estate while you still work for your employer. Otherwise, you would need to wait until you leave that job before you can transfer that 401k to a self-directed IRA or 401k.
Many good points from all parties. One thing to consider is your age, what your total amount of 401k value is, how much your employer matches and what the vesting period is. Then you need to run the numbers. For example, my employer matches my contribution up to 5% of my salary dollar for dollar, and it vests immediately. So then I get a 100% percent gain on my money. I'm also 59 1/2 plus so I can contribute up to 5% of my salary, get a 100% gain and then withdraw the money at my income tax rate whenever I want. I doubt that anyone can match 100% percent gain in REI considering in my case that is an instant gain, I don't have to leave it sit. Moral of the story; everyones situation is different and I would calculate all the veriables. As it is I don't put more money into my 401k than my employer matches as I'd rather get the REI cash flow that beats 401k fund gains all day long.
If you haven't read Brandon's book the Multifamily Millionaire Vol 1 then I recommend you read it. When I read the chapter on Cap Rate x NOI equals the property value (commercial only so 5+ units) and the scenrios he presented my head almost exploded and I really wished I had started REI years ago, now I'm playing catchup... Best of luck!
Thank you Joel! I actually just purchased Brandon's book and can't wait to learn even more!
If you collect a W2 elsewhere you can still have a solo 401k if you have your own business. You would be collecting two W2s then but it only makes sense if that business generates revenue so you can pay yourself and contribute to the solo 401k.
Rental Property Investor · Red Bank, NJ · Member since 2017 · 1k+ posts · 1k+ votes
5y
Well as someone who does both, let me tell you- once you get some cash accumulating in that retirement account it is a beautiful thing! If I pulled my cash out when these other people did I guess I would be downplaying it too.
Learn the Rule of 72, set it (S&P/small cap) and forget it (unless for a loan to buy RE) When your in your 40's you'll have hundreds of thousands in there and that's when it really starts to snowball! When you look at that $750k and calculate on past average that it could be $1.5 million in less than 6 years! Only someone who stopped contributing would downplay that. Sure there will be drops- but it is a relentless, upward trajectory.
Oh but you have to pay taxes on it! uh, yeah... duh. Your going to be paying taxes on your real estate sale as well- but with one you have far better control of the spigot
Learn what an S&P/SC index fund is. Your money is not going to disappear because of some stock brokers! That is an asinine proposition. You have a slice of all of the best companies, and if they go sour, (GE, Sears) they get dropped from the index while others (Tesla, Moderna) get added.
Look at the graph of the S&P 500/SC- it drops occasionally but climbs relentlessly.
1. Do not forsake one for the other.
2. Always use one for the other. (Loan for RE and increased contribution after cash flow)
3. And do not be misled into thinking that RE is a passive investment! (If you are going to invest- cash flow. get paid for your work)
If you put in 6% of your paycheck into a 401k and your employer also puts in 6%, then YOU are funding 50% of your retirement. If you put down 20% on a rental property, your TENANTS will be funding the other 80%. Which would you rather have?
This is an interesting way to look at things. I will point out that you can also have tenants funding your 401k or IRA the same way they can create wealth for you outside of these retirement accounts.
It is interesting. But I would also point out that funding immediately vs. slowly amortizing and being heavily back-loaded over 30 years are two very different things. This is not to discount the power of principal paydown because it certainly is a useful benefit.
I think most smart investors and High NW individuals do not consider this decision a zero sum game and utilize both to their maximum benefit. I have a hard time believing that investing in your 401K to take full benefit of your company's match will hinder your RE goals. As long as you do it long and steadily, it really doesn't take much to retire with a 7-figure balance in your retirement fund.
Rental Property Investor · Fargo, ND · Member since 2017 · 17 posts · 18 votes
5y
James, lot's of great insight here already. Sounds like you are already on a fantastic start for retirement savings! If I was in your shoes, here is what I would do.
1. Keep your 401k - I like to look at this as a nice safety net for if your real estate ventures don't go as planned. It also depends on your taste for risk. Pulling out your current contribution to "put all your eggs in one basket" (real estate), might not be a good thing to do as a relatively inexperienced real estate investor, but like others have mentioned, could result in the greatest returns over a longer period of time.
2. Match whatever your employer requires to get the full 401K contribution provided by them. Free money! Unless you can find deals that have a better ROI then this, I would highly recommend it.
3. Max out your Health Savings Account (HSA) if one is provided by your employer. 2021 IRS limit is $3,600 (single, under 55yr old) for 2021. My company allows this to be invested in an S&P 500 index fund with low fees. HSA's are triple tax advantage, meaning contributions are pre-tax, grow tax-free, and can be withdrawn tax-free for approved medical purposes (otherwise once you turn 65 can be withdrawn similar to your 401k).
One tip here is that there isn't a time requirement to withdraw funds from your HSA to cover allowable medical expenses. Keeping good documentation along with receipts will allow you to withdraw up to that expense amount at a later date tax free. Therefore, people will opt to pay out of pocket for the time being to allow those funds to continue growing tax free. I'm not sure if this is something that will be changed over time, so it's probably best to keep an eye on it.
4. Max out a Roth IRA if your income (MAGI - modified adjusted gross income) is less than $125,000 in 2021 (Single Filer). This may be contrary to what some others here believe, but I feel that have retirement savings in multiple forms come your retirement, will give you the best options for tax-advantageous withdrawal. Especially since no one will be able to predict what laws regarding to tax will be at that time.
The 2021 limit is $6,000 (single, under 50yr old). I actually like my Roth better than my 401k as my goal is to be making more money in my real estate in my retirement years than I am currently making today. Roth IRA's are post tax income that can be invested in multiple ways (stocks, mutual funds, etc.) that grow tax-free and can be withdrawn tax-free in your retirement years.
5. Use the remaining to start investing in real estate! I recommend getting to know your market and analyzing a ton of deals so that you know when a good one comes by. Also, start making connections with local real estate investors as they will provide good insight for your market. Start slow and make sure you have plenty of emergency funds! The deals I've bought over the past 4 years have had actual cash on cash returns of 15%-19% (we shoot for 10% but tend to overestimate expenses or underestimate rent) and principal pay down of another ~10%. Not even taking appreciation into account, we have been seeing a total return of 25%-29%! I will note that we have been self managing our properties along with fixing them up at the start, so definitely not as passage as a 401k!
Best of luck to whichever direction you decide to go!
Attorney · New York City / Long Island, NY · Member since 2020 · 597 posts · 248 votes
5y
You need tailored personal financial advice from a qualified tax professional such as a CPA or tax attorney. It's worth spending money to avoid a more costly mistake. Find out their fees before agreeing to use their services. You can then compare various scenarios that would work for your particular situation & goals. But get professional advice before you start making moves you may later regret.
"4. Max out a Roth IRA if your income (MAGI - modified adjusted gross income) is less than $125,000 in 2021 (Single Filer). This may be contrary to what some others here believe, but I feel that have retirement savings in multiple forms come your retirement, will give you the best options for tax-advantageous withdrawal. Especially since no one will be able to predict what laws regarding to tax will be at that time."
Right on the money Ted. And see if your company offers a ROTH 401k, more and more are... and if not, try and get them to. $20,500 (2022) into a Roth every year to grow and be harvested tax free. Yes please! One thing I do know is that if the current congress acts on the tax brackets- they will go up. And if they don't, the current rates will sunset when the Tax act does. I am all in. I max mine out even though I am in a higher bracket.
Property Manager · Clarksville, TN · Member since 2018 · 443 posts · 210 votes
5y
If possible, try to do both! If you can get those funds into a self directed account, you could potentially take advantage of both. I currently lend money out of my self-directed IRA and have the ability to invest in real estate directly. I also borrow from (and partner with) others who have money to lend.
I like to think of it like this: you are the CEO of your own life. One of your jobs as CEO is to allocate resources. Consider that, although your retirement account may have tax advantages, your investment options (and therefore your ROI) may be limited. If you can grow and scale faster by investing more in real estate now, and contributing less to your, 401k, it could be worth it in the long run (even after accounting for the tax benefits). The velocity of capital provided by combining leverage and real estate is hard to beat.
Rental Property Investor · Queens, NY · Member since 2017 · 93 posts · 128 votes
5y
There's all sorts of answers on how you should use your 401k and the future contributions. What I did was:
1 - Lower contribution to only get the maximum match from my employer.
2a. - Take the extra contribution and instead push it into another account to accumulate, I put it in an S&P500 index fund because I have zero tolerance for lazy money. When the time is right, sell those funds and use it to buy a rental property.
2b - If you think putting those funds in an index fund is risky then put it in a checking or savings account, it's no biggie. The point is to assign a specific place for the funds that would've gone to your 401k. Never trust that the money is just going to be available in your daily-use checking account when you need it, it'll always find a way out lol.
3 - I kept my 401k handy, I didn't withdraw anything. Aside from your down-payment & closing cost every mortgage lender needs proof of reserves (3 months -24 months, depending on your lender.) Luckily for you 401ks count towards that reserve. It's not considered at 100% face value, but anywhere from 50%-75%. This has saved me many times over the past 4 years during cash-out refinances.
4 - After a while as my 401k balance grew, I was able to take a loan out on 50% of my 'vested' amount. If your 401k balance is 150k and only 100k is "vested" then you can borrow up to 50k. It loans you the funds and reduces your 401k balance and you'll have to pay interest. However, the interest is paid back to yourself to grow your 401k further!
I utilized this method to purchase cash flowing real estate and it's been a no brainer for me. A 401k can 100% be a REI tool without having to break the piggy bank.
Media, PA · Member since 2018 · 54 posts · 25 votes
5y
@Justin Windham. There are many avenues that work better than a 401K. There are some good comments on here. I’m in the life insurance world and I’ve helped quite a few investors set up a cash value policy that allows for tax free withdraws / retirement, where some investors pull out the cash to fund their properties. It’s becoming your own bank, in essence. Id be happy to send over a PowerPoint- no strings attached. I’m passionate about building wealth through Tax Free vehicles and real estate so if I can help in any way, I’m all in. Take care!
Specialist · Los Angeles, CA · Member since 2018 · 291 posts · 231 votes
5y
@James Somers without a match it's not even close, leveraged real done responsibly wins every time against an index fund. A 100% match changes the math a bit but but I would probably save and do the Match until I had a good deal that you can show with real numbers a 20%+ ROI. That could be a 25% down on an investor loan or even better 5% on a house hack or 10% on a vacation home loan. Make sure you have great management in place or you are prepared to do a great job yourself knowing it's an extra job/business if you do it yourself. Math doesn't lie if you can 10% average return over 30 years in stock market if you put in 3,000 dollars it would be 52,348. If you put in 1,000 at 20% average return you would have 237,373. So if you had a tax rate of 33% you made 1,500 pay the taxes you have 1,000 to invest or get match have 3,000. 15% average return on real estate over 30 years for ever 1K is also more than stocks with 66,211. Also at the end of the time frame you would have better cashflow and other benefits like tax advantages on the real estate as compared to the full income tax stocks so if you liquidated the whole portfolio the difference would be even larger. Plus you can use the money before traditional retirement age if you wanted to retire early. Before everyone tries to beat up 20% number keep in mind you would likely need to keep reinvesting at least some of the cashflow/ refinance money to get 20% plus one property untouched over 30 years would be unlikely to get 20% plus. So there is a bit of work and research maybe even skill involved. With 75% LTV an average of 2 percent inflation of rents and house value would get a 6 cap property with 4% interest rate pretty close to 20% if you can keep close to 75% LTV. Ideally if you could get a 3-4% plus spread between the cap rate and loan amount with 75% LTV you could get that. I do STR's so my spread is much higher but more active. The people I manage for also have a much higher spread pretty passively. P.S. I'm expecting much higher than 2% inflation/appreciation which would drive the real estate returns up significant. If you get the match and can get it out as soon as you have enough for a good deal that could be the best as you will get 75-80% more money to invest in the real estate even with 10% penalty and being taxed on the extra amount.
I know this may be a weird question to ask on a real estate forum (Im thinking the vast majority of responses will be pro real estate), but I wanted to get some different perspectives from the BP community.
I currently work a full-time job and I am fortunate enough to be able to max out my pre-tax contribution to my 401k each year. As I continue to listen to the podcast and read about people's success in real estate, I have started to ponder if contributing approximately $20k to my 401k each year is a wise investment or should I start using that money for real estate. I also want to add that I do additional savings outside of my 401k however my ability to invest in real estate would significantly grow if I stopped contributing to my 401k.
For reference: I do contribute to my company's 401k so it is not a self-directed 401k, and I have always been told to at least contribute the bare minimum to get the companies match so I am not leaving money on the table.
So BP Community, what are your thoughts?
Be careful with the information given here, weed out the bad information and hype. Some people make a good buck in RE, but many had lost their shirts. You don't hear the stories of people left holding the money bag often. Others claim to make good money in RE but their real business is to sell books and seminars.
RE could be extra cash, a second job, or a full time job - it's funny how some call the RE job early retirement. It's up to you what you want.
Keep your 401k and watch the fees, only invest in low cost index funds. Read Boggleheads blogs and books to fine tune your investments.
Max the 401k, make sure this matches your risk tolerance, plan ahead for college payments for your kids, if any ( State is $30K, private is $70 K per kid/year). Use all legal options to lower your tax exposure. E.g., 529, spousal IRA, transportation, healthcare FSA, childcare, etc. Get a good safety net and put in a high yield savings, such as HMBradley at 3%
Current RE prices are nuts and they don't make sense to me. I'll buy another place if the price is right, but it's a tough one. Your area may be different.
Real Estate Agent · Cincinnati, OH · Member since 2015 · 474 posts · 580 votes
5y
@James Somers I had to ask myself this same questions 6 years ago as I was contributing to my 457b (government employer's 401k equivalent) every month prior to investing in real estate. Aside from the obvious, that you will not benefit from that money until retirement age, and who wants to be forced to work until retirement age? Investing in real estate has given me over 4k a month in cash flow, and over a million dollars in networth in 5 years of investing. That growth would not have been possible if I continued on that path and just fed my retirement account. It also benefits me right now, not someday. It is not even close, there is no comparison. It is a simple decision. The good news is, if you invest in real estate correctly, there will be a time where your income surpasses your expenses and you'll want to stash some extra cash away into retirement accounts anyway for the tax savings, so it is not a zero sum game. However, if you have to choose one, real estate hands down.
Realtor · Vail, AZ · Member since 2015 · 67 posts · 5 votes
5y
@Frank Rodrigues I thought the tax benefits are removed with properties in a self directed IRA? Meaning, you can't deduct any expenses while the property sits in an IRA?
Property Manager · CT · Member since 2019 · 27 posts · 8 votes
5y
@James Somers I understand you struggle with this. I too have the the same questions. Let me tell you what I am doing.
I have a 401 k from a w2 JOB that I have maxed for years. My bussiness allows me to open a eQRP, it is different but like a solo k. I am asking to have my JOB terminate me to transfer the 401k to the eqrp. The eqrp can invest I REI, with restrictions. I will take 19500 a year and roll that into forwarding my REI goals.
The future is very bright for investing in real estate. Is the juice worth the squeeze. Only you know. Do your own DD.
