IRAs and Solo-401Ks, husband and wife

8 Replies

Trying to figure out all the pieces I need to get to a point where I can invest from a solo-401k.

My understanding is if you purchase a property from a solo-401k, you need to delineate the money if its funded from two 401k accounts.  So if you account funded $10 and your wife's account funded $5 towards the property all the expenses & income will be split 2/3 1/3 down the road for tax purposes, right?

Now if that is indeed the case, do you do the same ratio on another property?  If something else comes along, and the fund is short, so my wife rolls over another $5, the ratio changes, so you might end up with a different participating ratio for each property, is this a problem or just a matter of more accounting?  Or is it better to use one account to buy properties exclusively? Such as property A funded 100% by husband, property B by husband, property C by wife, then property D comes along and you do the funding from both on that one only?

Where do you all "park" your funds while waiting for the right property to come along? Do you put them in a traditional IRA where you can trade stocks and funds in the mean time?

Most investment accounts are not FDIC insured. In the case of solo-401k if the money is actually held in a traditional bank account I assume it us FDIC issured for up to 250k until you use it to invest, correct? If your fund exceeds 250k do you break it into two accounts in two institutions or you don't worry about it because you don't fund it until you have a target property in sight?

@Sam Leon  

In most cases it is much easier and recommended that you buy the property using just funds in your account and the same for your spouse's account.

In the case of truly self-directed Solo 401k plan where you direct the funds as trustee of the plan, the funds are initially held at the regular business checking account. Yes, you can split the funds into more than one bank/account if the balance is over $250K in order for the entire balance to be FDIC insured. But in most cases this is not necessary as you will not just keep cash (losing money to inflation) at the bank - your goal is to invest the money. But if you are unable to find the investment in a timely manner you as trustee of the plan decide how money is invested. But in my opinion there are better options than giving your money to the bank. Even if it is for a short term investment. You can do short term notes which will not lock your money for long term but can produce nice returns (way more than the bank, but of course with more risk, just like any investment).

The bottom line you as trustee of the plan decide how funds are invested (both long and short term).

Sam,

@Dmitriy Fomichenko   covered a lot of it pretty good, but I'll add a bit.

First off, I use a SDIRA, not a Solo401K, but I THINK the rule would be similar. In my case, I invested into a 3-way LLC with my brother and father, each 1/3 ownership. Each of our SDIRAs has it's own account just like regular IRAs. Each of those SDIRA accounts (which hold minimal cash - maybe $500 each) invested into the LLC as 1/3 owners of it. The LLC purchased a rental and had say 30K left over (10K from each of us). The LLC can invest that into stocks, cds, etc.... until we find another rental.

Where it is a bit tricky is that within THIS particular LLC, each of our SDIRAs must contribute the EXACT same ratio if we want to put more $$$ in. One way around this is say if my brother and I wanted to do a 50-50 partnership WITHOUT our father, we would need to start ANOTHER LLC with just the two of us. I am not sure how that would differ if done without an LLC structure.

I hope that make some sense.

Dan Dietz

@Daniel Dietz

I think the example you gave is kind of what I am trying to understand better.  Let's use that example.

Now assuming you, brother and father has three IRAs each with a different balance.  For simplicity sake let's say:

YOU - 200K

BROTHER - 100K

FATHER - 100K

and you formed an LLC and you want to own real estate with 1/3 contribution from each.

Now let's say a property comes along and it's 285K and you decided to pay cash for it. So each of you would put 95K into that LLC to buy the property, right? Everything is split into 1/3s.

Now that leaves 5K in your brother and father's account, and 105K in yours, yes?

Let's say 4 months down the road there is a major issue with the roof and it needs to be replaced and the cost is 20K.  How will you fund the 20K with equal contribution from all three parties when the most they can put in is 10K total?  Even if you have the fund you can't change the percentages - I guess theoretically you can, but it would be an accounting nightmare?

So my thinking is in order to keep maximum flexibility with the scenerio here it really needs to be 50% you, 25% brother and 25% father to make things easy.

Am I thinking right or am I lost?

Sam,

I think you are on the right track for the most part. 

Actually in our case, we CANT ever change the percentages, as we are 'disqualified parties' which I believe spouses are too. When dealing with disqualified parties, my understanding is that things need to stay EXACTLY the same FOREVER at least within that PARTICULAR LLC or venture. This also means say that you could not buy it with your SDIRA, and then have her SDIRA buy in 50% down the road....

As to your example property, your right on with your thinking that you could run into trouble with that scenario. What I would do in that case is to only put in say maybe 85K apiece, or a total of 255K and find a property(s) that would work with that amount. Of that 255K, personally I would only spend maybe 240K maximum on a property and keep 15K in reserves for taxes, minor repairs, etc.... and each of you could still fund up to the remaining 15K each left in the smaller account for a total of 45K more in the case of a major catastrophe (out town recently flooded and there was a lot NOT covered by insurances). Summary of that is you need to keep more in reserves.

My real life example is we had a duplex in mind for our first purchase that we new we could get for about 75K that did not need any repairs. We each rolled 30K -50K apiece into our individual SDIRAs (that amount does NOT need to be the same) and then each individual SDIRA 'bought into' the LLC for 30K apiece for a total of 90K in the LLC. We felt we had plenty of reserves with 15K left over. (we also each have plenty more in our regular IRAs that we could roll into the SDIRAs if needed).

The LLC can then invest the 15K of reserves however we all agree too, in our case about 5K in the checking account and 10K in EFT Stock Funds to get a better return on it. As rents come in trough the year, say maybe quarterly, we can invest that into the ETF Funds (r whatever you wanted).

Hope that makes sense :). Again, the summary is you do NOT want to push it as close as your example as you can run into a MAJOR pain in the butt in that scenario. One other note is that in your example for two 'lesser investors' (smaller accounts) could make their yearly contributions to bump up their available funds for repairs too (if they had not made their yearly contribution yet). 

Hope that helps. I did a LOT of reading on this before jumping it. I am NOT saying I know it all by any means, but I did think through a LOT of different scenarios! So ask away and I and all the others here will do the best we can to help.

Dan Dietz

@Sam Leon  

Be careful about your initial percentages of ownership because the example stated above would restrict you from making any subsequent investments into the LLC.

In this example:

YOU - 200K

BROTHER - 100K

FATHER - 100K

The "YOU" is a 50% owner of the LLC. Once you hit the 50% or more mark, the entity becomes disqualified and subsequent investments will be prohibited.

To solve this issue, be sure that all IRA investors make initial investments of less than 50% and maintain that exact percentage, like @Daniel Dietz  stated above, through the life of the structure.

Also be aware the multi-level LLCs will be subject to the same rules.

@Loren Whitney I guess I am still confused with the 50% limit.

If I am reading the Internal Revenue Code Section 4975 correctly, it applies to a partnership formed by an IRA holder and other non-IRA holders (such as father, brother...) and the IRA holder cannot hold more than a 50% interest in the joint venture or it would be a prohibited transaction.

What about a case of say husband and wife, two partners, both participating from their own SDIRA (or Solor-401K), in a 70%-30% or 60%-40% (depending on the proportion of the funds available from their respective IRAs), that should work?  Or is this prohibitive?

@Sam Leon  

IRC 4975 and specificially, sub-section 'disqualified persons', will apply (and should be reviewed) each and every time a new economic transaction takes place.

Upon the origination of an entity, no one owns equity in the entity. Therefore, if all transactions are processed at the same time, the initial funding is not prohibited. However, now if you (or combination of disqualified persons) owns 50% or more, future transactions will then violate the rules.

In the example you gave, the initial funding of an entity would be acceptable. The issue would be making subsequent investments. Therefore, fund your investment entity with more than enough capital to see the life of the investment through thick and thin. You might also want to look into neutral management as well.

If your investments are simplistic in nature, you may not necessary want to go as far as creating additional layers of entities when structuring the investment. The SDIRA/401k can invest directly.

Feel free to call me direct if you'd like to share a deeper discussion. Thanks!

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