Self Directed IRA for an Equity Partnership Flip

[Shane M.]

Hello BP Members - I have a self directed IRA (traditional) and plan to use it in a flip transaction with a friend of mine where the IRA would only be an equity partner. Is this a strategy I should use? Will the IRA be subject to self employment taxes (because this is a flip) or will it just be taxed as ordinary income? There will be no UBIT as it will be an all cash transaction.

Thank you in advance.

[Brian Eastman]

@Shane M.

The IRA will have potential exposure to UBIT.

Flipping is considered a trade or business activity, as opposed to passive investment earnings. When a tax exempt entity like a retirement plan engages in a trade or business on a regular or repeated basis, then UBIT applies. So, if you only ever do this one flip and do other passive things with the IRA in the future, that is no regular or repeated and UBIT would not apply. If you flip on a regular basis (vague term that gives the IRS flexibility to determine if you are materially competing with taxpaying businesses), then UBIT would apply.

There is no regular taxation to the IRA, so no income or self-employment tax. The gains are subject to UBIT and then the balance goes back to the IRA.

I can see that you are confusing UBIT with the similar UDFI. UBIT is Unrelated Business Taxable Income, as discussed above. When an IRA uses debt-financing, then Unrelated Debt Financed Income is taxed. Similar but different. Both are covered in IRS publication 598.