Self Directed IRA funding

Multi-Family and Apartment Investing
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Self Directed IRA funding

Anthony Standard
Investor · Union, NJ · Member since 2014 · 23 posts · 8 votes

Hello BP Community,

I have in a Self-Directed IRA. I'm ready to pull the trigger on purchasing my 1st multi-family property. My question is, when I buy my property and its cash flowing monthly, how do I reap the financial benefits of my earnings considering I can't touch the funds until I retire? What strategy can I put in place to improve my quality of living shortly thereafter I earn a handsome NOI or cash on cash return without having to pay capital gains on pulling my money out?

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Dmitriy Fomichenko
Solo 401k Expert · Anaheim Hills, CA · Member since 2012 · 18k+ posts · 6k+ votes
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@Anthony Standard

an IRA is a retirement account and created to help you save for the retirement. You can not receive any benefits from it now.

In order for you to reap the financing benefits of the investment now you have to invest outside of the retirement account. 

There is no legal strategy that I'm aware of to help you accomplish what you want. Just start investing personally. 

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  • Chris Eaker
    Buy and Hold Investor · Knoxville, TN · Member since 2013 · 450 posts · 270 votes
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    @Anthony Standard

    As long as your IRA owns the property, you can't take the proceeds yourself. They have to go straight back into your IRA.

    0Reply
  • Edward B.
    Investor · Midlothian, VA · Member since 2015 · 980 posts · 823 votes
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    @Anthony Standard, Whoa, be very careful here. If your intent is to benefit from the investment in the near term then do not use your self directed IRA in any way to fund the investment. If you are perceived to be benefitting from the investment either directly or indirectly your entire IRA can be void, not just the amount you invested. Your IRA custodian should be able to guide you more.

    1Reply
  • Dmitriy Fomichenko
    Solo 401k Expert · Anaheim Hills, CA · Member since 2012 · 18k+ posts · 6k+ votes
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    @Anthony Standard

    an IRA is a retirement account and created to help you save for the retirement. You can not receive any benefits from it now.

    In order for you to reap the financing benefits of the investment now you have to invest outside of the retirement account. 

    There is no legal strategy that I'm aware of to help you accomplish what you want. Just start investing personally. 

    3Reply
  • Anthony Standard
    OP
    Investor · Union, NJ · Member since 2014 · 23 posts · 8 votes
    10y

    I want to thank @Chris Eaker for your sound input.

    @Edward B. I most certainly will be careful. I'm completely aware of any possible drawbacks associated with attempting to draw funds out of my SD IRA. Thanks for reaffirming what I already suspected.

    @Dmitriy Fomichenko I appreciate you chiming in on this discussion. Investing outside of my IRA was/is my backup plan. I thank you for offering me clarity regarding this subject matter.

    Regards

    Anthony

    0Reply
  • Daria B.
    Rental Property Investor · Gainesville, FL · Member since 2015 · 1k+ posts · 432 votes
    10y
    Originally posted by @Anthony Standard:

    Hello BP Community,

    I have in a Self-Directed IRA. I'm ready to pull the trigger on purchasing my 1st multi-family property. My question is, when I buy my property and its cash flowing monthly, how do I reap the financial benefits of my earnings considering I can't touch the funds until I retire? What strategy can I put in place to improve my quality of living shortly thereafter I earn a handsome NOI or cash on cash return without having to pay capital gains on pulling my money out?

    Anthony -

    I too am opening a SDIRA and am exploring both the traditional and ROTH.

    I'm leaning toward the ROTH because it's a better tax advantage. I'm closer to the 59 1/2 for distributing funds. 

    0Reply
  • David Krulac
    Mechanicsburg, PA · Member since 2013 · 3k+ posts · 2k+ votes
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    perhaps you should consider a Solo 401k which has a lot more flexibility if you quailify, but you still can take profits out currently without penalty.

    1Reply
  • Justin WindhamPro Member
    Banker · Nationwide · Member since 2015 · 4k+ posts · 1k+ votes
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    @Daria B.

    Sometimes Roth funds are recommended more for those who have more time before retiring and taking the funds. The more time you have for the funds to grow tax free, the more the benefit. Also keep in mind any 5 year rule that may apply to your Roth. Another thing to consider when deciding between Roth and pre-tax funds is what your tax rate is at time of contribution vs what it will likely be when you are taking distributions. These are some of the factors that can determine which is a better tax advantage for you.

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  • Justin WindhamPro Member
    Banker · Nationwide · Member since 2015 · 4k+ posts · 1k+ votes
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    @Anthony Standard

    Congrats on the progress you've made so far with your self-directed investing. It can be a great way to amass savings for retirement. As mentioned though, if you want funds to use before retirement, building up income outside of the retirement account will be a key addition to what you are doing inside the retirement account.

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  • Mark Nolan
    Professional · Carlsbad, CA · Member since 2012 · 12k+ posts · 1k+ votes
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    @Anthony Standard

    While it would still subject you to federal taxes even if you processed partial distributions from the IRA, there is a way of not having to pay the 10% early distribution penalty which applies to distributions made from an IRA prior to reaching age 59 1/2.

    You can avoid the 10% early distribution penalty by taking 72T equal periodic distributions. See the following IRS link for more rules on this.

    https://www.irs.gov/retirement-plans/retirement-plans-faqs-regarding-substantially-equal-periodic-payments

    1Reply
  • Jesse Hargrove
    Investor · Charlestown, NH · Member since 2016 · 48 posts · 15 votes
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    I HAVE SELF DIRECTED IRA ACCOUNTS INVESTED IN RENTALS. I WAS READING AMANDA HANN'S BOOK THAT IF YOU ARE USING LOANS TO FINANCE YOUR PROPERTY. YOU WOULD BE BETTER OFF WITH A SOLO 401K INSTEAD OF AN IRA DUE TO THE UBIT TAX. THAT I WILL PAY IF I USE A NON RECOURSE LOAN TO PURCHASE MY NEXT PROPERTY. I WISH I KNEW THAT. ITS A LITTLE BIT OFF SUBJECT BUT THOUGHT I WOULD THROW IT OUT THERE.

    2Reply
  • Justin WindhamPro Member
    Banker · Nationwide · Member since 2015 · 4k+ posts · 1k+ votes
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    @Jesse Hargrove

    Agreed, a self directed IRA can be a great way to get control and investment flexibility with your retirement funds, but if one is eligible for a Solo 401k, it usually makes sense to go that route instead. There are just so many advantages a Solo 401k has over an IRA (LLC), one of which you mentioned.

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  • Franklin Romine
    Visalia-Fresno, CA · Member since 2009 · 1k+ posts · 863 votes
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    @Anthony Standard  nice working on taking action and buying with your retirement account. 

    I recently converted my American Funds IRA into a Pensco Self-Directed IRA to lend money to a investor I know. I'm not 100% how the deal will go down, but I'm doing something.

    Most people, in general, stay in the seat, stare out the window and eventually someone will just put a blanket on them.  I always wanted to be on the fast tract to freedom. 

    Franklin

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  • Ryan Koehler
    Arlington, VA · Member since 2013 · 115 posts · 40 votes
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  • Joel OwensBusiness Member
    Moderator
    Real Estate Broker · Canton, GA · Member since 2010 · 15k+ posts · 11k+ votes
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    Doesn't IRA INVESTING have it's own problems?

    I am not an expert on these but what I run into sometimes with commercial clients on smaller deals is they want to mix their regular cash sitting around and add IRA money for a 2 to 3 million property.

    So they have 500,000 but want to add 300,000 from IRA. The problem is IRA money to buy property the loan has to be non-recourse is my understanding. Banks will do the non-recourse IRA but I have found the interest rate is very high like mid 5's or more. So by getting a recourse loan and not using IRA money the loan rate is over 100 basis points lower.

    The IRA requirement for non-recourse really crushes the cash on cash return with the higher interest rate versus the cap rate paid in today's environment.

    Some of these accounts seem like a lot of jockeying around and work for just a little upside. If you can just keep buying properties and 1031 exchanging  with regular cash and take out cash refi's when you want to then why not just do that?

    Some have said doing loans with IRA money is better than owning directly with them as there is less red tape to deal with.

    I can't remember was there a Biggers Pockets podcast on IRA and SOLO 401k investing? Maybe there was and I missed that one.

    Podcast Guest on Show #47
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  • Justin WindhamPro Member
    Banker · Nationwide · Member since 2015 · 4k+ posts · 1k+ votes
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    @Joel Owens

    The issues you describe are some reasons that not every investment is perfectly suited for a retirement account's involvement. This can be particularly true when an investor is considering mixing retirement and non-retirement funds in the same purpose. It's generally best not to.

    It's really a matter of finding out the best things to do with retirement and non-retirement money alike. Some scenarios are going to play out much more favorably for a self directed IRA or 401k than others. The better suited investments are going to have a big advantage over an investment made outside of retirement funds, but that all needs to be evaluated before making the investment. It's the same as with anything else as far as investments go- you need to know what you're getting into and be prepared to operate within certain parameters. A good investment outside of the retirement account can quickly turn into a bad one if certain practices aren't followed and the same is true with self directed IRAs and 401ks.

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  • Pat K.
    Investor · PA · Member since 2014 · 11 posts · 4 votes
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    Hi Joel,

    I am not an expert with commercial lending nor self directed IRA's. But here is my thought, maybe Justin can jump in with his thoughts too.

    If your client wants to use some of their IRA funds for the purchase, why not let the IRA loan the money ($300,000) to your client/the investor?? The IRA does not need to be a co-purchaser. The IRA can lend money at market rates (don't want to discount the rate because of self dealing) The IRA will charge/make whatever % interest rate, which the investor would be paying any way to another commercial lender. So on the $300,000 the investor is paying them self whatever % rate to their own IRA. Maybe with tax savings??

    The investor gets a 1st recourse loan/mortgage with a commercial lender with the better rates, they also get a 2nd recourse loan/mortgage from the IRA with the better rates. When the investor wants to sell, they do a 1031 exchange. I think maybe this would work for your client??

    I think people get all mixed up/confused when dealing with IRA's and 401K's. Always remember IRA's and 401K's are separate entities from their owners!!! Sometimes the IRA's / 401K's will be co-owners, sometimes they will be lenders!

    Let me know what you think!

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  • Jesse Hargrove
    Investor · Charlestown, NH · Member since 2016 · 48 posts · 15 votes
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    My thoughts are if you are in your fifties and have been a good little do be. Saving money in your 401k every year. Most investors are directed into stocks or mutual funds. They are counting on wall street to make them money. Some times they do and some times you loose 40% of your entire life savings. Either way it is numbers on a sheet of paper. And you have little control of your investment.

    What we are talking about here is taking control of our financial life. When I found out about self directed IRA It was an easy decision for me. I own properties now that are cash flowing back into my IRA I am responsible for my retirement. Yes there are IRS rules that you need to live with. If you are using non recourse loans to finance your deals the rates are a little higher. 5 % or so, I am a little older and in 1986 when I purchased my first home after saving 20% for my down payment the interest was 11.875 and I could only dream of the days of 6% interest rates like my parents paid.

    I am not doing million dollar deals. But in can touch my properties and they will never be worthless.

    People are always going to need a place to live and my IRA has helped me invest in quality rental property. Sorry for going on. The bottom line for me is I have been an investor for many years.

    I have moved out of the stock market and in to real estate. I should have made the move years ago.

    I like BP and enjoy the posts it is always a learning experience. I would like to hear a podcast on solo 401K this is new information to me. Good luck to all the investors on BP 

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  • Justin WindhamPro Member
    Banker · Nationwide · Member since 2015 · 4k+ posts · 1k+ votes
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    Originally posted by @Pat K.:

    Hi Joel,

    I am not an expert with commercial lending nor self directed IRA's. But here is my thought, maybe Justin can jump in with his thoughts too.

    If your client wants to use some of their IRA funds for the purchase, why not let the IRA loan the money ($300,000) to your client/the investor?? The IRA does not need to be a co-purchaser. The IRA can lend money at market rates (don't want to discount the rate because of self dealing) The IRA will charge/make whatever % interest rate, which the investor would be paying any way to another commercial lender. So on the $300,000 the investor is paying them self whatever % rate to their own IRA. Maybe with tax savings??

    The investor gets a 1st recourse loan/mortgage with a commercial lender with the better rates, they also get a 2nd recourse loan/mortgage from the IRA with the better rates. When the investor wants to sell, they do a 1031 exchange. I think maybe this would work for your client??

    I think people get all mixed up/confused when dealing with IRA's and 401K's. Always remember IRA's and 401K's are separate entities from their owners!!! Sometimes the IRA's / 401K's will be co-owners, sometimes they will be lenders!

    Let me know what you think!

     Hi Pat,

    An IRA accountholder cannot take a loan from their IRA. Doing so would be a prohibited transaction and would cause the IRA to be considered distributed. Self directed IRAs and 401ks can be great investment vehicles, but it is important to know the basic rules that govern them so one can stay out of trouble while growing their retirement funds.

    0Reply
  • Anthony Beckemeyer
    Investor · Mckinney, TX · Member since 2016 · 26 posts · 8 votes
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    Easy fix is to go to some mixers and find someone you can barrow from there IRA and they barrow from yours. There are other people in your shoes and do it all the time. Your IRA custodian could tell you more.
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  • Justin WindhamPro Member
    Banker · Nationwide · Member since 2015 · 4k+ posts · 1k+ votes
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    @Jesse Hargrove

    I agree with your assessment of 401k funds and the lack of control that most have with those 401k assets. Truly self-directed IRAs and 401ks can be a great solution to that.

    That is an excellent observation on the interest rate of your first home purchase. It really puts things into perspective- everything is relative.

    Congrats on your IRA investing so far. The Solo 401k is a similar structure to the IRA LLC in that both can give checkbook control of your retirement funds and allow for investment into alternative assets such as real estate. One key difference is that the Solo 401k requires that you have self-employment activity and no full time employees of your own in order to be eligible. If you are eligible, you'll enjoy a number of benefits over an IRA. I won't go into all of those now as I don't want to hijack the thread, but I thought I'd touch on it since you mentioned this being new information for you.

    1Reply
  • Brian EastmanPro Member
    Self Directed IRA & 401k Advisor · Wenatchee, WA · Member since 2014 · 2k+ posts · 2k+ votes
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    @Anthony Beckemeyer

    A quid pro quo arrangement such as you suggest, would, if spotted by the IRS be highly likely to be considered a prohibited transaction. Basically, the other party is being used as a front in order to gain access personally to funds in one's own IRA. Any responsible custodian will make you aware of this fact if they know your intentions.

    Just because lots of folks may be doing it, does not make it wise.

    2Reply
  • Anthony Beckemeyer
    Investor · Mckinney, TX · Member since 2016 · 26 posts · 8 votes
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    How could it be a prohibited transaction? You are not using your own IRA for the investment? As long as it's not a person who is restricted. You meet Joe at a mixer. Joe has 100k to lend in his IRA you tell joe you also have 100k to lend. Joe lends you 100k out of his IRA at 8% for one year. You lend joe 100k at 8%.
    0Reply
  • Justin WindhamPro Member
    Banker · Nationwide · Member since 2015 · 4k+ posts · 1k+ votes
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    @Anthony Beckemeyer

    @Brian Eastman beat me to it. I hope custodians aren't encouraging these types of transactions.

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  • Brian EastmanPro Member
    Self Directed IRA & 401k Advisor · Wenatchee, WA · Member since 2014 · 2k+ posts · 2k+ votes
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    @Anthony Beckemeyer

    IRS rules prohibit any direct or indirect benefit between the IRA and a disqualified party.

    The fact that you lent money to the other party with your IRA, provides them the capital and flexibility to lend you capital in return. Thus, the IRS could easily determine that the IRA created a benefit to you personally, which would be a prohibited transaction.

    2Reply
  • Justin WindhamPro Member
    Banker · Nationwide · Member since 2015 · 4k+ posts · 1k+ votes
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    @Anthony Beckemeyer

    While either transaction on it's own may not be a prohibited transaction, looking at both transactions could reveal a more problematic intent. If investor A intends to lend retirement funds to investor B just so that investor B will lend retirement funds to investor A, then investor A was using his retirement funds in his own interest and/or benefitting from his funds (and investor B was doing the same). It's a risky practice.

    Would either transaction have occurred without the other? One might finds themselves having to prove this. Or, perhaps they might not even be given a chance to do so before a PT is determined to have occurred.

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