Best way to use 401k to finance a property

Commercial Real Estate Investing
8yFollow

Best way to use 401k to finance a property

Ali Hashemi
Investor · Southern Indiana, IN · Member since 2017 · 178 posts · 95 votes

I own a fully leased 8 unit multi-family and am looking to purchase a 12+ multi-family in 2018. I estimate in my geography I can find what I'm looking for for around $750,000 or less.

My bank is hard and fast on requiring 20% down-payment. And I figure I'll need an additional $10k for 'transition/closing costs'.

20% of $760,000 is $150,000.

I currently have $25k in my Roth IRA and $100k in my 401k and will soon have (if I stay on track) the remaining $25k in savings.

Selling my 8-unit is not an option (not enough equity). Finding private financing is always an option, but unlikely (I don't know many people with that kind of money to spare). So leveraging my Roth IRA and 401k seem to be my most feasible option.

What is the best way to do this:

1) Cash out my 401k (worry about tax penalty in 2019)

2) Borrow against my 401k?

3) Can I 1031 exchange my 401k?

4) Some other option?

I appreciate any advice/insight/recommendations....

0Reply
42 views

Most Popular Reply

Basit SiddiqiBusiness Member
Accountant · New York, NY · Member since 2015 · 8k+ posts · 3k+ votes
8y

@Taoufik K.
He can't do an FHA since this is more than 4 Units.
He will likely require a portfolio/commercial loan for this property.

[email protected]917-280-8544
Basit Siddiqi CPA4.979 Reviews
View Page
1Reply
See this reply in the discussion

26 Replies

Jump to latestLatest
  • Omar Khan
    Rental Property Investor · Dallas, TX · Member since 2017 · 1k+ posts · 1k+ votes
    8y

    @Ali Hashemi Easiest way is that you can invest through a self-directed IRA. Although there are some pitfalls to this, most people find it an easy way to tap their existing pools of liquidity. If you want to get a deeper answer, you should give us some #s around your deals, so other posters can provide more insightful commentary.

    0Reply
  • Ali Hashemi
    OP
    Investor · Southern Indiana, IN · Member since 2017 · 178 posts · 95 votes
    8y

    Thanks for your reply @OmarKhan . What are the general steps to doing this? Have ou or someone you’ve known gone this route? What other numbers are needed for deeper insights, I’m happy to provide? 

    0Reply
  • Basit SiddiqiBusiness Member
    Accountant · New York, NY · Member since 2015 · 8k+ posts · 3k+ votes
    8y

    @Ali Hashemi

    I vote to borrow against your 401K.
    You can borrow up-to the lesser of $50,000 or 1/2 your 401K balance(if your plan offers this feature).

    If you cash-out your 401K - you would have to worry about mandatory withholding, state withholding and penalties. You may also have to see if your 401K allows you to withdraw from it while still being employed.

    Are you able to pull out any equity in your 8 unit multi family?

    [email protected]917-280-8544
    Basit Siddiqi CPA4.979 Reviews
    View Page
    0Reply
  • Taoufik K.
    Boston, MA · Member since 2017 · 55 posts · 10 votes
    8y
    i vote for #2. but there are limits. why dont you do an FHA LOAN instead? and you only need as little as 3.5 you can do more like 10%.
    0Reply
  • Ali Hashemi
    OP
    Investor · Southern Indiana, IN · Member since 2017 · 178 posts · 95 votes
    8y

    Thanks @Basit Siddiqi I wasn't aware of some of those restrictions. It seems I need to have a conversation about what my 401k will and won't allow.

    I have around $85,000 in equity in my 8-unit

    0Reply
  • Ali Hashemi
    OP
    Investor · Southern Indiana, IN · Member since 2017 · 178 posts · 95 votes
    8y

    @Taoufik K. it's my understanding FHA only applies to residential (4 units and less) and therefore wouldn't be possible for this property.

    0Reply
  • Basit SiddiqiBusiness Member
    Accountant · New York, NY · Member since 2015 · 8k+ posts · 3k+ votes
    8y

    @Taoufik K.
    He can't do an FHA since this is more than 4 Units.
    He will likely require a portfolio/commercial loan for this property.

    [email protected]917-280-8544
    Basit Siddiqi CPA4.979 Reviews
    View Page
    1Reply
  • Stan Sugarman
    Investor · Decatur, GA · Member since 2015 · 313 posts · 207 votes
    8y

    I would counsel either waiting to buy another property until you have the down payment and additional cash reserves or partner with a deeper pocket investor. Buying a commercial property through an IRA has several downsides. First any mortgage interest you pay is subject to Unrelated Business Tax which is very complicated, financing has to be non recourse which is almost impossible to acquire on a commercial property and depreciation is not deductible. Also you are not allowed to self manage as that would be considered a violation of the IRS rules governing the IRA taxability. Borrowing against a 401(k) really ramps up the risk profile of a riskier property purchase. If your company downsizes or lays you off you will have to pay back the loan or have a big tax bill which will drain your cash reserves.

    0Reply
  • Bernard ReiszPro Member
    CPA delivering RE Tax Tools: 1031 Exchange, SDIRA, 401(k), Cost Seg · New York City, NY · Member since 2017 · 581 posts · 563 votes
    8y

    @Ali Hashemi

    If you can get access to the 401k $$, there may be a way to do this. On an early distribution, your 401k is going to get a significant haircut for income tax and early withdrawal penalties (subject to withholding). You could explore rolling it over to a a Checkbook 401k/IRA - which could buy a multi-family - but if you're still employed by your 401k plan sponsor and under 59 you probably won't have the option to do so.

    [email protected]
    1Reply
  • Ali Hashemi
    OP
    Investor · Southern Indiana, IN · Member since 2017 · 178 posts · 95 votes
    8y

    Thank you @Bernard Reisz for your insight! I'll look into and ask about the Checkbook 401k/IRA

    I am no longer with the same company that my 401k was with.

    0Reply
  • Robert AdamsBusiness Member
    Real Estate Broker · Henderson, NV · Member since 2009 · 1k+ posts · 373 votes
    8y

    A financial planner can better advise on this, but why not look into converting your 401k to a self directed IRA. Then purchase the investment as the IRA being the buyer. You will not be able to put the profits in your pocket without penalty as you would need to put all the funds back into the IRA at the end of the deal but it is a nice way to build a retirement nest egg without paying the penanlties and still differing the taxes.

    [email protected]702-349-9175
    The Adams Team at Rothwell Gornt Companies4.971 Reviews
    WebsiteView Page
    0Reply
  • Ali Hashemi
    OP
    Investor · Southern Indiana, IN · Member since 2017 · 178 posts · 95 votes
    8y

    @Robert Adams I like the sound of that. Two potential issues I'd need to resolve...my 401k/IRA wouldn't be enough by itself to purchase the property and there are IRA contribution limits.

    2) I don't really like the idea of not taking the profits but I could always refinance later? Certainly like you're suggesting, it would be better than straight losing the profits to tax penalties.

    Thank you very much for your input!

    1Reply
  • Ali Hashemi
    OP
    Investor · Southern Indiana, IN · Member since 2017 · 178 posts · 95 votes
    8y

    @Account Closed You are absolutely justified in your statement. I justify it to myself several ways. But the real reason is the typical immigrant story. My dad worked hard his whole life with little financially to show for it. Only growing up an immigrant's kid can you understand the feeling of obligation to carry your parents journey (non-immigrant kids have their own issue too I'm sure, but this is my burden). I have the rest of my life to slave away if this doesn't work out. Crossing my fingers social security is still around if I fall on my face!

    side note: look at all the people who have gone bankrupt and come out clean the other side. Some notable names in today's politics I won't mention.

    0Reply
  • Robert AdamsBusiness Member
    Real Estate Broker · Henderson, NV · Member since 2009 · 1k+ posts · 373 votes
    8y

    @Account Closed with the IRA being self directed you choose how agressive or conservative you want your invesmtent to be. Right now I don't see nay factors pointing to a slow down and for that reason I am confident in using self directed IRA funds for real estate. Should the market shift I would also shift my IRA investments to a more conservative investment.

    It is definitely a personal decision and everyone has their own comfort levels.

    @Ali Hashemi I would be more inclined to purchase a property with out financing if I am using the funds from an IRA. As leveraging the IRA with a loan will increase risk. I would be more inclined to leverage other funds instead of my retirement funds. However, buying a buy and hold property for $100k - $125k with the retirement funds and no debt service in a highly appreciating market like Vegas is very appealing to me right now.

    Happy Holidays and Happy Investing everyone!

    [email protected]702-349-9175
    The Adams Team at Rothwell Gornt Companies4.971 Reviews
    WebsiteView Page
    0Reply
  • Steven J.
    Urbana, IL · Member since 2012 · 1k+ posts · 425 votes
    8y

    I'll second getting a self directed IRA/401k. Depends on your end goals. I couldn't figure out how to add a file here but you can check it out at the fileplace to see the differences side by side of a self directed 401k vs IRA. The crazy things with the SD401k, which is what I got, is that I can borrow against it up to 50k (not much) for 5 years. This allows me to fund my mobile home business where homes are generally rehabbed and purchased all under 10k.

    0Reply
  • David Putnam
    Investor · San Jose, CA · Member since 2015 · 11 posts · 2 votes
    8y

    Quite often you cannot take a loan out of your 401K if you have left the employer.  I've tried with Vanguard in the past it wasn't allowed.

    0Reply
  • Dmitriy Fomichenko
    Solo 401k Expert · Anaheim Hills, CA · Member since 2012 · 18k+ posts · 6k+ votes
    8y

    One must meet (and maintain) the eligibility requirements in order to do a self-directed Solo 401k plan, while anyone can have SD IRA (Solo K is not for everyone). However, if you are eligible for the Solo K it offers superior benefits to SD IRA.

    Consult with an expert (or two) to help you determine which option would be best for you.

    0Reply
  • Jeff Kehl
    Rental Property Investor · Charlottesville, VA · Member since 2012 · 1k+ posts · 726 votes
    8y

    @Ali Hashemi I have a self-directed IRA which I use to invest in Real Estate. The problem with going that way is you can't easily use it as a down-payment on a large property and leverage it like you're proposing.

    If you want to do that you probably should pull it out and pay the taxes and penalties on it.

    But, if you're ok buying something smaller all in cash and slowly building your retirement account (which you cant access until retirement) then the self-directed account works pretty well.

    Other possibilities are to partner with some other self-directed investors through a partnership or syndication.

    0Reply
  • Carol C.
    Investor · Nassau County, NY · Member since 2016 · 82 posts · 43 votes
    8y
    @Ali Hashemi - also look at a RollOver to Business Startup 401k (ROBS 401K).
    0Reply
  • Chad Thompson
    Investor · Anchorage, AK · Member since 2017 · 2 posts · 0 votes
    8y

    One additional problem with borrowing against your 401k is that you have to pay the funds back within 5 years.  That would add an approximate $900/mo payment that can really bite into your cash flow.  Unless you are doing a rehab/refinance type deal with the new property in which case a 401k loan might be a good source for short term money.

    0Reply
  • Ali Hashemi
    OP
    Investor · Southern Indiana, IN · Member since 2017 · 178 posts · 95 votes
    8y

    This is all really good information. Thank you all for your input.

    Quick summary for anyone reading the thread in the future:

    Options for using retirement account to finance purchase (in no particular order):

    1. RollOver to Business Startup 401k (ROBS 401K).

    2. borrow against your 401K. You can borrow up-to the lesser of $50,000 or 1/2 your 401K balance. have to pay the funds back within 5 years.

    3. portfolio/commercial loan

    4. You could explore rolling it over to a a Checkbook 401k/IRA - which could buy a multi-family

    5. Self Directed IRA

    6. self-directed Solo 401k plan. The problem with going that way is you can't easily use it as a down-payment on a large property and leverage it like you're proposing.

    Cautions:

    1. Buying a commercial property through an IRA has several downsides. First any mortgage interest you pay is subject to Unrelated Business Tax which is very complicated, financing has to be non recourse which is almost impossible to acquire on a commercial property and depreciation is not deductible. Also you are not allowed to self manage as that would be considered a violation of the IRS rules governing the IRA taxability. Borrowing against a 401(k) really ramps up the risk profile of a riskier property purchase. If your company downsizes or lays you off you will have to pay back the loan or have a big tax bill which will drain your cash reserves.

    Time to go consult a couple financial advisors

    0Reply
  • George Blower
    Retirement Accounts Attorney · Southfield, MI · Member since 2017 · 3k+ posts · 1k+ votes
    8y

    @Ali Hashemi

    Because of the retirement account rules, your best bet is going to be to take a 401k participant loan. To learn more about those rules, see the following. 

    https://www.irs.gov/retirement-plans/retirement-plans-faqs-regarding-loans

    0Reply
  • Jason Dillard
    Real Estate Broker · Greer, SC · Member since 2013 · 548 posts · 271 votes
    8y

    Lend the money in the retirement accounts.  There are people in your position that need down payment money.

    Find a lender to a new LLC from someone else's retirement

    0Reply
  • Ken P.
    Rental Property Investor · Northville, MI · Member since 2013 · 264 posts · 183 votes
    8y

    @Ali Hashemi, I was in a similar situation to you 4 1/2 years ago, and took down 18 units with the money from the following sources:

    $50k from 401k loan

    $60k from HELOC on primary residence

    $25k in cash from savings.

    The primary loan was owner financing, which is an option I didn't see in any of the above discussions.  With owner financing, the seller wasn't particular about where the money came from for the down payment, whereas a bank would likely be much more hesitant to have almost all the initial equity come from debt.

    What being so deeply leveraged allowed us to do was hold back some cash to renovate the apartment interiors and to address deferred maintenance, and also hold back cash for reserves.  The renovations in turn allowed us to attract a better class of tenant willing to pay higher rents, which covered all the debt payments.  The short-term debt is now being paid off (just sent the check today for the last of the 401k loan!) and cash flow is several thousand per month and climbing.

    I didn't see cash reserves addressed in your plans, which is an absolute necessity when taking on apartment complex ownership.  Any institution willing to lend money on the property will insist on you having cash reserves.  Reserves are the only way to assure that some misfortune that befalls your precious investment doesn't become good fortune for the next investor, who comes along and picks up the pieces when you're forced to sell.

    0Reply
  • Ian Parrish
    Investor · Baltimore, MD · Member since 2017 · 26 posts · 21 votes
    8y

    • Hi Ali.  Congratulations on your 8 unit.  Here are some thoughts based on my 25 years investing in real estate to help you reach your goal of acquiring another cash cow property:

      1)  Be flexible.  You may set out mining for gold, but be flexible enough to capitalize on silver or diamonds if you happen to find them.  That is to say that your goal of finding a multi-unit is well and good, and you should go after your goal, but don’t be so focused on an imagined way to make money in real estate that you ignore actual opportunities to profit.

      2)  Focus on leads.  Leads are primary.  You’re putting the cart before the horse by trying to solve a problem you don’t have.  For all you know, the next seller with whom you speak might not need the cash that you’re racking your brain trying to come up with.  Why waste time figuring how to pay for a property that doesn’t exist?  (Before you answer that, read on..)

      3)  Give yourself options.  You’re falling into the cash trap right now; and let me tell you, that problem only gets bigger the more successful you are because the deals get more expensive and the number of transactions you do increase too.  The key is to conserve your cash.  “Where to get the money?” is the most common question there ever was in real estate investing, and unfortunately most investors only know about five answers to this question:

      i) Pay cash

      ii) Get bank financing

      iii) Get owner financing

      iv) Do a lease option

      v) Do a subject to (most of the time these are done improperly).

      Notwithstanding these five common ways of buying real estate, there are around 50 ways that my team and I have identified to acquire real estate.  We teach these at Investors United, our real estate investing school here in Baltimore.  When you know then, you’ll be better able to conserve your cash, and you’ll be able to do more deals and make more money.  Here are a few ideas for free.

      -          Consider doing a dry settlement (transfer the deed with no money exchanged), then refi. the property and pay off the seller.  (That’s no money down, my friend.)

      -          If there’s existing financing, consider taking that over either with an assumption or a subject to contract; it may reduce your cash out of pocket.

      -          Consider asking the seller to refi the property at an agreed rate with a one-time qualified assumption and release of liability.  You qualify with the bank and take over the mortgage at closing, the seller is released from the debt immediately and walks with cash.  (This too is a no money down idea.)

      -          Use soft money. There are plenty of people out there with money. To find them, attend a REIA, talk with co-workers, ask your boss, ask your dentist, speak with people 60 years and older who have had a lifetime to save. You know them already most likely, you just don't know they have money. Now understand that their money is far less valuable than what we have as investors (knowledge). They don't know how to multiply their money and their terrified of losing it. Between stocks or bonds, investing in a franchise, buying gold, they're confused. You can give them confidence and a return. What's more, you're a person they can see and touch. So, identify your next real estate opportunity, package it by writing a short investment summary, then sit down with those folks for their opinion. Don't ask them for terms, you tell them how much you'll borrow, what interest you'll pay, and how you'll pay them back. I suggest 8-10% annual interest with no payments until you refi. within 12 months (to be extended at your option).

      There’s a lot more to creative financing for real estate investment, but this is a good start.  

    1Reply
Join the conversationCreate a free account to reply, vote on answers and follow this thread.
Log InJoin for Free