Cincinnati, OH · Member since 2015 · 81 posts · 24 votes
I'm not new to real estate investing, but still inexperienced. Why do people fawn over self directed 401k's. I mean, you get to invest in real estate tax free. That's absolutely amazing, BUT you can't start pulling out your money until almost 60. So if you want to retire early, aren't they pretty much useless. Maybe I'm missing something about it. Hope I'm posting this in the right forum.
It is a very simple analysis. If you have money in a retirement plan today, what it is earning? If you understand an asset class such as real estate, notes, or private equity and have opportunities within your network that allow you to get a better rate of return, then your tax-sheltered retirement savings is performing better.
If you grow your retirement plan from $100,000 to $1,000,000 in real estate, you will pay more in taxes on the back end than if you left it in the stock market and only grew it to $500,000 or $800,000.
The Rich Dad guys are making the wrong argument. Comparing investing in ANY asset class with tax-deferred retirement savings as compared to after-tax money will have different tax consequences. Comparing the two is comparing apples and oranges.
Sure, if you have piles of money in both qualified and non-qualified funds, you may choose to diversify in ways that you put the most tax-favorable investments in the non-qualified bucket. But at the end of the day if you can get %12 or better investing in a secure asset, that is better than getting 6% in a volatile asset... every day and every way.
Specialist · Westlake Village, CA · Member since 2010 · 1k+ posts · 781 votes
9y
I have no affiliation with any 3rd party admins & plan proviers. They are an amazing tool to acquire notes & options. Some features: Deferring taxes, much higher contribution limits than IRA's, plan loans, less stringent rules vs. IRA's on self directing.
Rental Property Investor · Picayune Ms. · Member since 2017 · 47 posts · 25 votes
9y
I am by no means knowledgeable about this type of investing. I do know with 100 percent certainty that rich dad advisors Garrett Sutton and Tom Wheelright both say it's not a good idea. Something along the lines of two negatives (retirement funds and investment property) make a positive (tax liability) I had thought about using my IRA to buy another investment property but after hearing this I decided not to. I still wonder if it wouldn't make sense to just cash out and pay the penalty and use what's left to purchase another investment property. Has anyone done this with any success?
It is a very simple analysis. If you have money in a retirement plan today, what it is earning? If you understand an asset class such as real estate, notes, or private equity and have opportunities within your network that allow you to get a better rate of return, then your tax-sheltered retirement savings is performing better.
If you grow your retirement plan from $100,000 to $1,000,000 in real estate, you will pay more in taxes on the back end than if you left it in the stock market and only grew it to $500,000 or $800,000.
The Rich Dad guys are making the wrong argument. Comparing investing in ANY asset class with tax-deferred retirement savings as compared to after-tax money will have different tax consequences. Comparing the two is comparing apples and oranges.
Sure, if you have piles of money in both qualified and non-qualified funds, you may choose to diversify in ways that you put the most tax-favorable investments in the non-qualified bucket. But at the end of the day if you can get %12 or better investing in a secure asset, that is better than getting 6% in a volatile asset... every day and every way.
Investor · Malakoff, TX · Member since 2017 · 2k+ posts · 2k+ votes
9y
If you want to make money so you can spend more money, 401/IRA type accounts probably won't be to your liking. If your objective is to accumulate wealth over the long term these types of accounts can be advantageous.
Cincinnati, OH · Member since 2015 · 81 posts · 24 votes
9y
@David Dachtera I thought you couldn't start to officially take out money until you reach like 59 and a half, is this misinformation? If this is the case though, the benefit of having one of these accounts isn't as helpful for someone who wants to retire from an active job/business at lets say 40. They have no way to access their money until 60 without paying full taxes and a 10% early withdraw fee. Doesn't that make the whole thing kind of pointless? Of course, if you wanted to work an active job until you are 60 then this account is perfect. I'm referring to people that want to live off of their investment income at a relatively early age.
Rental Property Investor · Picayune Ms. · Member since 2017 · 47 posts · 25 votes
9y
@Brian Eastman Again I do not know a lot about this, but my general understanding is that the property would have to be paid 100 percent by the IRA, most banks will not do a mortgage with an IRA, the IRA technically owns the property so the investment does not have the significant tax advantages.
For starters, the property must be rented out full time; it cannot be a personal residence or rented out only occasionally.
This automatically prohibits you from taking advantage of the normal deductions related to investment real estate, such as property taxes, mortgage interest or depreciation on your personal tax return.
If any prohibited transactions take place, you risk losing the tax-deferred status of your IRA, will owe tax on the full value of the IRA's assets and, on top of that, if you are under 59 1/2, you will owe a 10% early withdrawal penalty.
Additionally, there is a litany of requirements and "prohibited transactions," including the fact that the IRA owns the property and not you personally. Also, the IRA has to be held under the custody of a fiduciary firm, which means custodial fees will follow. Maybe for some it makes sense, however for me the loss of the normal deductions with the added costs of Property management ( I self manage my properties now), fiduciary custody fees and the headache of dealing with the litany of other things that can pop up whenever the IRS decides to make some sort of change that can disqualify me at any given time makes me think....no thanks
Investor · Midlothian, VA · Member since 2015 · 980 posts · 823 votes
9y
@Nicholas Patrick , you are implying that you can only do one or the other. Why not do both? Additionally, taxes are the single greatest expense anyone pays throughout their lifetime and one of the most damaging items to your returns. So anything you can do to minimize or mitigate them is typically to your great advantage.
Cincinnati, OH · Member since 2015 · 81 posts · 24 votes
9y
From what I understand, I agree completely. Cash flow is king though. Net worth is overrated when you can't access your assets until your golden years have passed you by. What I was thinking is that I would transfer my traditional 401k from work over to a self-directed 401k. I need to build up some wealth that I can pass on to my future children and/grandchildren. Although, most of my investing would be through an LLC where I can have access to my profits upon the drop of a hat. @Eric James & @Edward B.
St. Louis, MO · Member since 2017 · 16 posts · 6 votes
9y
@Nicholas Patrick Real estate is a great investment to use for diversification purposes. I totally agree that if you are building an overall portfolio it is advantageous to have both a 401k (or IRA) along with Real Estate. Real Estate can be much more lucrative with less risk. The great thing is that you make the decision on how you want to save for retirement!
@Brian Eastman Again I do not know a lot about this, but my general understanding is that the property would have to be paid 100 percent by the IRA, most banks will not do a mortgage with an IRA, the IRA technically owns the property so the investment does not have the significant tax advantages. This automatically prohibits you from taking advantage of the normal deductions related to investment real estate, such as property taxes, mortgage interest or depreciation on your personal tax return.
If any prohibited transactions take place, you risk losing the tax-deferred status of your IRA, will owe tax on the full value of the IRA's assets and, on top of that, if you are under 59 1/2, you will owe a 10% early withdrawal penalty.
With an IRA you can finance the property, but it has to be non-recourse financing. There are certain lenders who specialize in this. The drawback is that most lenders typically requires a higher down payment, plus the use of financing in an IRA will be taxed with UBIT. A solo 401k, on the other hand, can use non-recourse financing without triggering additional taxes.
As Brian said, the question may not be whether you should invest within an IRA/401k or take the money and pay penalty. Sometimes, it is whether you should invest your IRA/401k in real estate instead of stocks/funds. Let's say someone already accumulates a sizeable 401k from their previous jobs, does not want to pay the 10% penalty, and is not happy with the returns they get from traditional investments. In this case, self directed plans allow them to keep the funds in the tax-deferral accounts while earning higher returns from real estate. That's the benefit of it.
While you are right that investors need to watch out for prohibited transactions, it is not impossible to do follow the rules and avoid all the complications. Besides, there are also other passive investments that are suited to IRA/401k, such as investing in notes, private lending, etc.
Investor · Austin, TX · Member since 2015 · 43 posts · 25 votes
9y
What if you owe money to the IRS at the end of the year? Your CPA says you can get a current year tax deduction by putting "x" into a 401k account. I believe the maximum amount for a 401k account is about 50K! Would you rather give your money to TRUMP or keep investing in RE with it??🤔hmmmmmmm....
With IRA's, the max you can put in for a current year tax deduction is about about 5 or 6k.
Im no pro by any means with deductions, taxes, retirement accounts, but i believe these are the basics from what i have been reading.
Again, you are NOT taking either distributions or withdrawals!
You are simply investing your 401(k) in something OTHER than Wall Street or Gov't bonds.
Talk to a savvy tax accountant (I can refer you, if you need one) and (s)he will tell you how to gain checkbook access to your self-directed retirement funds.
You retire off the income your wealth produces. You use YOUR retirement money (it belongs to YOU!) to create wealth.
Cincinnati, OH · Member since 2015 · 81 posts · 24 votes
9y
@David Dachtera I understand the princables of the solo 401k. You can pretty much invest in anything with some exceptions like art, rugs ect. My problem is, i either need to take withdraws or keep a job, right? My goal is to retire from my day job by 40. If I can't take withdraws or distrubutions from the 401k how am I supposed to live before it becomes accessible to me at 59 1/2 years old. Keeping in mind I want to retire no later than 45. You obviously have way more experience in this than I do. I'm just a little confused, I guess.
I will definitely be contacting a tax accountant when the time comes. Right now though, this was a hypothetical question to try to further my understanding of the self directed 401k. Right now I need to finish school, and get a high paying job so I can start investing. There's little doubt in my mind that I will be using this strategy. The question I need to answer is to what extent I want to use it.
@David Dachtera I thought you couldn't start to officially take out money until you reach like 59 and a half, is this misinformation? If this is the case though, the benefit of having one of these accounts isn't as helpful for someone who wants to retire from an active job/business at lets say 40. They have no way to access their money until 60 without paying full taxes and a 10% early withdraw fee. Doesn't that make the whole thing kind of pointless? Of course, if you wanted to work an active job until you are 60 then this account is perfect. I'm referring to people that want to live off of their investment income at a relatively early age.
Those are exactly my thoughts. Bravo! Even with a 100% employer match.. I love it when people say its "free money".. no, its not free money. Not even close.
Its money that is taken away from you, money you could be using to spend on an amazing vacation, an enjoyable and rare tea/wine/whisky, invest, increase passive monthly income, build a school in a 3rd world country, give to charity, etc. Money that is torn away from you to a later date. A date where you may not be alive, healthy, happy, or mobile.
By the way.. if you get an employer match your whole working life, you will earn an additional 2% on your money. That's terrible. You don't get double! The math is the math, and its been calculated already.
CPA delivering RE Tax Tools: 1031 Exchange, SDIRA, 401(k), Cost Seg · New York City, NY · Member since 2017 · 581 posts · 563 votes
9y
@Nicholas Patrick Any strategy must be analyzed within the context of the investors overall financial goals, abilities, and profile. While in many circumstances a Solo 401k presents the best option, there are instances in which there are better alternatives.
It's important to note that a Solo 401k may be more versatile than you think. The focus of most discussions regarding Solo 401k plans centers on the ability to invest in RE, notes, tax liens, HML, and others. However, an equally compelling aspect of Solo 401k(s) are features that can be incorporated into a plan that provide more financial flexibility and abilities to manage the taxation of income inside and outside the plan.
Investor · Grosse Pointe Shores, MI · Member since 2017 · 160 posts · 74 votes
9y
@Nicholas Patrick As a young man, I'm sure 59 1/2 is a long way off. But you'll be surprised how quickly you'll get there!
My husband and I are late to RE investing. The money we have in our 401(k)/403(b)/IRA accounts is more than we have in cash on hand to invest. So we're excited about the prospect of tapping into a bigger pot of money to use to invest.
One aspect we find very interesting is the ability to take out loans that can be used for any purpose. Say, for example, helping make a cash purchase outside the 401(k) in a BRRRR that can be repaid with the proceeds when the property is refinanced. Rinse and repeat.
Investor · Midlothian, VA · Member since 2015 · 980 posts · 823 votes
9y
I would also point out that if you change your investing approach in 5, 10, 15, 20 years and decide that you have amassed enough passive income that now you want to transition to long term wealth building. And you would like to turbo charge it by using tax advantaged accounts to their full potential. Well, too late. The IRS caps the amount of money you can put into these accounts each year for a reason. And you cannot go back and contribute for the years you neglected to take advantage of.
The opposite is not true though. If you decided that you did want access to the money without waiting for retirement, you could access it. Sure with a penalty and I would never recommend it, but you do have the option. And personally, I believe that if you are doing things right you shouldn't need that money anyway...ever. Let it grow tax free and pass it on to your heirs. You can amass significantly more wealth in a tax advantaged account over the course of your lifetime than you can in one where you are taking that huge hit every year.
I'm finding this out the hard way. I regret investing in my 401k. I now have a sizable amount and cannot access it until I'm 59.5. In order for me to roll it over I need to quit my job and wait until I'm 60. Or liquidate & pay a 10% penalty. I stopped all further contributions to my 401k because of this.
I also have entered the REI game late in life. I too desire to replace my W-2 income with passive real estate investing. I currently have a decent amount in my company 401K. I am approaching this in 2 ways.
First I am investing in Buy and Hold properties now to replace my W-2. Once I reach my target I will retire (quit!) and concentrate on REI. I will then roll over my 401K into a self directed 401K and start REI there. One channel for current income/living expenses and the other for future income/retirement.
Once I reach the authorized withdrawal age it shouldn't be an issue.
Investor · Coppell, TX · Member since 2008 · 2k+ posts · 646 votes
9y
Hello and welcome to BP! The first reason to tell you is that this is retirement account that does not supply you any current income unless you are willing to pay a penalty for withdrawing any money from that activity. It is a more diverse option. There are many things you can invest in. Any loans by that account must be non-recourse. Those type of loans usually take more of a down payment. I have also heard that it is protected from the IRS. As far as they are concerned it is hands off. Many people have learned is the obstacles put in to keep you from currently benefiting have failed when it comes to going around those obstacles and getting any current non-penalized withdrawals. If you do not need any current income I think it can be a good way to go. These statements are meant for the original questionnaire, Nicholas.