Is dealer status avoided if real estate activity is done using a self directed IRA?

Question

I recently set up a self directed IRA through Midatlantic.  I was wondering if I use my self directed IRA money to wholesale properties, does that avoid the dreaded dealer status?

One of the Midatlantic reps suggested this was a good way for people that have a relatively small amount of cash in their self directed account to increase their cash quickly.  He suggested that I use a very small amount of IRA funds to get the property under contract,  when the contract is sold to the end buyer, those funds would get put  back into my self directed IRA and I could repeat the process.

Up to this point in time, I have been fearful about fix and flips or even wholesaling because I feared the dealer status.  I was wondering if the dealer status can be avoided if I keep everything within my self directed IRA?

Jon Holdman · Answer

Without a doubt doing this activity inside an IRA will trigger UBIT.  All the income from wholesaling (or fix and flipping, etc.) in an IRA is going to be subject to UBIT.  If the folks at this custodian have not mentioned this then, frankly, I'd find a custodian who actually knows what they're doing.  Hopefully that's not the case and they discussed this ugly tax with you.

You may also have an issue with the contribution of your labor when doing wholesale deals in an IRA.  If your IRA is doing fix and flips, you cannot do any of the work.  The activities you might do to accomplish wholesaling (marketing, negotiation with sellers, finding buyers, etc.) could be construed as contributing your labor to the IRA.  I'm not sure where this line would be drawn.  A conversation with a knowledgeable attorney would be money well spent.

Dealer status is not all or nothing.  Wholesaling or fix and flips generate ordinary income and are subject to SET.  You can still hold rentals and they are subject to all the rental tax rules.

You should find an accountant who's familiar with both real estate investing (including RE jobs like wholesaling and fix and flipping) and SDIRA and get their advice.

Brandon Hall · Answer

@Sandy Uhlmann

Bill Gulley Correct me if I am wrong, but isn't the situation Sandy is describing out if the scope of a SDIRA? I know when flipping using SDIRA funds, you cannot be the "labor." Wondering if it's the same idea with wholesaling.

Sandy Uhlmann · Answer

Thanks to all for the advice.  I agree that I need to find a CPA that is knowledgeable in these areas of real estate.  It is so frustrating when trying to explain wholesaling and other less well known areas of real estate investing to accountants and even real estate attorneys who are not familiar with these areas.  They see these real estate investment choices as either shady or fly by night.  I find it so tiring to explain and/or justify these investment choices to them.

Doreen Chaisson · Answer

Using your SD IRA to buy/flip houses with a frequency that brings your IRA to Dealer Status will definitely trigger UBIT tax.   Your IRA becomes a type of Real Estate Operating Company. Any Operating Company owned by an IRA is subject to UBIT on 100% of the Net Profits, after deductions and depreciation, etc.

The UBIT tax due must be paid with IRA funds, not by the IRA owner.  Any repairs/improvements made on the properties must also be paid by the IRA owner, and the work performed by non-disqualified parties.

Buying/holding property for investment purposes or buying, fixing and selling a very limited number of properties per year will not generally trigger UBIT (as long as no financing is used by the IRA to purchase the properties), but it's important to always have a knowledgeable CPA and/or attorney review your proposed investment strategy to make sure you're not inadvertently running afoul of any IRS regulations.

Jay Hinrichs · Answer

She should check with one of the SDIRA guys on the site I think there are issues of being in the business and that could create a unintended business tax with regard to using SDRIA funds for an ongoing business venture as opposed to passive investments

Bill Gulley · Answer

You can't earn any benefit personally from distributions regardless what you do, I understand her arrangement as here SDIRA buying/contracting and selling without her gaining anything from the transaction.

My comment is to dealing in any business activity that requires a license, such is not exempt due to the source of funds or entity structure. Her SDIRA can't conduct business as she can individually, buying or contracting in its name, it is a business activity and in MO, facilitating the sale of RE as a business requires a license. I don't see here SDIRA being licensed, it might loan money, but looks to me like it is conducting the business.

Need to see if the fund manager has a conduit to operate through, too, I don't know.

Difference is, individual wholesalers may not be deemed to be in the business until a certain point, if they have a company then that activity will be seen as a business. Here, facilitating sales requires a license if you are in the business.

This is an aspect of basic business activities, I know we have dealers, operators, lenders and investors dealing in RE without applicable licenses thinking they are exempt acting individually or even in some entity. A determination is made as to any individual conducting any business activity to see if they are acting on an occasional basis, actually doing some portfolio investing using their personal funds or if they are actually in a business activity. When you are determined to be conducting some activity to profit, conducting business, you're "in the business of" whatever. The IRS determines being "in the business" based on the %of income to your total income. The Mo Dept of RE may look at the number of deals, frequency, amounts earned, intent and circumstances of transaction to determine ig you're in the business of RE, just as most states will.

RE license requirements vary, what you do may skirt license requirements, some are very clear and more restrictive, a primary concern for birddogs and wholesalers. In Mo., do one or two a year, you may not have an issue, doing 5 or 6 you probably will. Doing one as a business, you can have an issue. Some common sense too, if I own a trailer manufacturing company, contract in that company name to expand my operation, change my mind, sell the contract, there won't be any issue bottom line, but if my company is XYZ Flipping Homes, paying taxes under a tax code of a real estate operator, I can be hammered.

My point here, is that the SDIRA is conducting a business activity as an investment strategy, the "being in the business of" applies to any entity, be it some fund, a C-Corp, LLC, or whatever. Non-profits are exempt from license requirements so long as they deal for themselves.

All this, in this thread is IMO, I'm very familiar with RE license requirements and there are no exemptions for retirement accounts, they apply to "any individual or corporation". Sources of funds are not relevant.  Why I suggested to see if the funds manager had some conduit that would be or could be compliant. :)

Bill Gulley · Answer

Sorry Sandy, your source of funds has no bearing on your status of being "in the business of", and the business activities carried out by any entity are applicable to licensing requirements and other restrictions. The only advantage I see is the tax dodge using the IRA, so long as your transactions are at arm's length ICW tax code.  :)

Jay Hinrichs · Answer

I think there could be an issue with this.. you should get a second opinion

Is dealer status avoided if real estate activity is done using a self directed IRA?

Most Popular Reply