Is it possible for a person to use their own Self-Directed IRA to buy and rehab a house, then get it refinanced to pull the IRA money back out as a method of buying a rental property? If so what would be the difficulties and pitfalls of using this method? Can you just pay back the amount borrowed from the IRA without needing to pay interest? Would this just be more complicated than its worth considering other financing methods available?
What you are thinking of is not possible. The transaction you describe would effectively be you purchasing the property from the IRA.
All activities of a self-directed IRA must be exclusively for the benefit of the IRA and there may be no direct or indirect benefit in either direction between yourself (or disqualified parties) and the IRA.
A self-directed IRA is simply a way of broadening the investment choices of the IRA.
An IRA can purchase property, including with a non-recourse mortgage.
All income produced by the property flows to the IRA tax sheltered.
Yes you can take your money out of your IRA to put into a property, fix it up, refinance and pay the IRA back, without interest, once every 12 months. It is called a 60 day rollover. However you need to pay the IRA back within 60 days of taking the money out. So it is possible but probably not feasible in most scenarios.
@Chris Chappell a quick conversation with you custodian will answer these questions. If your IRA participates in the deal, it is my understanding it would need to have ownership equal to the capital contributed and with the IRA on the title the loan would need to be non-recourse - further complicates things before also exploring ubit.
If you are doing this all in "cash" using the SDIRA - then you are not able to refinance that money back out taking title in your personal name the long hold - tax laws. But you could refinance into a loan to you SDIRA, again non-recourse, keeping the SDIRA on title and all profits going back to the account. The lower loan to values might require you to leave money in the deal - so you would be limited by the lender and size of account.
Originally posted by @Chris Chappell :
What made me wonder about it was I read about private lenders loaning money from their self directed ira to real estate investors. So I thought one might be able to use their self directed ira like a private lender to fund the purchase and rehab of a house that needed to much work to get a conventional loan. Then refinance with a conventional loan, payback the ira with interest if needed, and rent out the house to pay off the conventional loan.
You are not able to personally benefit from your IRA - which is why this doesn't work.
@Chris Chappell an IRA owner can lend, (we often pay people a nice interest rate to use their IRA money). You can also buy in your IRA partnered with another IRA (the devil is in the details). But you won't be able to find a "conventional" loan to refi out, because it has to be a NON-recourse loan. Virtually all conventional loans will want a personal guarantee (which makes it a recourse loan). NASB.com does offer non-recourse loans, but they will only go 50% LTV, and you will still be likely responsible for taxes on the financed portion of the property/profit, which can be as high as 39%.
Yes an IRA can loan money to a non-prohibited person, however, your IRA can not loan to you as you are a prohibited person. As @Travis Sperr said, you can not personally benefit from your IRA, nor can your IRA benefit from you.
A prohibited person is you, your spouse, your family that is linear to you (Mother, Father, GrandParents, children). A prohibited "person" is also a business/entity you own 50% or more of.
Here are three structures that might be helpful for you if you intend to use retirement funds on your deal.
1. You recieve funds from another private lender in the form of a note. You and the lender sort out the terms. Private lenders can be found at investor groups and through networking.
2. You use your IRA to purchase the property, the IRA is the owner of the property. As @Eric E. explained, your IRA can take out a non-recourse loan.
3. Your IRA can partner with another IRA or lender to purchase the property.
I have someone who has substantial assets in their IRA who is interested in PARTNERING instead of just lending to me for buy-n-hold rentals.
Our thought is to form a LLC where we are 50-50 partners. We would then use the funds from his SDIRA as the 20% down-payment portion of commercial portfolio loans, and for me to be the signer on the loan for the other 80%. I would have no cash in the game, but do all acquisition, reconditioning, managing etc...
My current portfolio lender is ok with just me signing and the partner not giving a personal guarantee at all.
Do you see any issue with his SDIRA only putting up 20% of cash needed, but getting 50% of the profits (both cash flow and long term capital gain). It does not SEEM like there should be an issue, but as always, 'the devil is in the details'.
Thanks, Dan Dietz
There is no issue with a vendor/partner receiving a larger share of income on a deal due to being the dealmaker - so long as you are not a disqualified person to the IRA in question.
The IRA will have exposure to UDFI.
To learn more about the prohibited transaction rules, see the following.
Many of our clients structure their deals in the manner that you described. LLC or JV or LP documents are usually prepared with the salient points and the investing is initiated. @Brian Eastman stated it quite well and UDFI tax may apply based on income and depreciation as described in IRS 990T documents and forms.
@Travis Sperr stated that: "...you can not personally benefit from your IRA, nor can your IRA benefit from you..."
And @Carl Fischer stated "...A prohibited person is you, your spouse, your family that is linear to you (Mother, Father, GrandParents, children). A prohibited "person" is also a business/entity you own 50% or more of..."
So If I understand you correctly then if I was to become a syndicator (something I am researching) and was to do a deal but I personally owned less than 50% of the LLC or LP or whatever form was used, than my SDIRA could actually be part of the syndicate? Is that correct? So if my company that I own less than 50% in is not a prohibited person then would other normally prohibited family members be able to loan to it as well?
Carl, If I am completely off base here please let me know.
You have to avoid any direct or indirect benefit between an IRA and a disqualified party. Simply having an entity where you are a participant without a controlling interest does not disqualify that entity, but there can still be benefit from such a transaction. Control by executive decision making authority is also going to disqualify the entity, so just being <50% owner does not solve the matter of itself. When you say you will be the syndicator, I think keep your own IRA away.
I personally would stay away from what you are heading towards, but if you want to work closely with a tax attorney who specializes in this area, you may be able to proceed with some structure that creates reasonable confidence of compliance (but not 100% certainty).
The ownership and control issue as @Brian Eastman suggests is a slippery slope. Read Rollins vs the IRS in which Rollins lost with less than 10% ownership. It also appears that you want to bring in family members checkout the Adler decision first. Leave your IRAout of this deal, others are in your same boat, you may be able to look at similar investments as we created a group to provide such investments for ourselves. The self directed accounts are too good to take a chance of disqualifying them.
If you think it could be a possible prohibited transaction make a seperate IRA with just the money for this dealnin it so the whole IRA won't be disqualified.
If you do this make sure you use a tax attorney to keep you on the straight and narrow.
Thanks. this was just a hypothetical. I do not currently have a deal in the works, trying to make sure I understand everything first. In the process of starting a few courses to up my education level on the subject. I appreciate the info and will look into the cases you mentioned. thanks again, great info!
The rules are different for a self-directed 401(k), correct?
@Kristopher Kyzar Depending on what you mean by "the rules", likely not. All rules related to self-dealing, disqualified parties and prohibited transactions apply to both IRA and 401(k) based plans.
One example would be that 401(k) plans do allow for loans of up to 50% or $50K whichever is lower that can be payed back over 5 years with interest.
Here are the general considerations regarding 401k loans.
401k Participant Loans
- If your 401k plan allows for 401k participant loans, the maximum loan amount is equal to 50% of the balance up to $50k. The repayment terms for a 401k participant loan are equal monthly/quarterly payments of principal and interest (typically prime plus 1%) over a 5 year term (longer if used to acquire your principal residence).
- Please note that if you take a full $50,000 and then pay back the loan, you can't take another $50,000 until 12 months after the first loan was fully paid back.
- Per the loan offset rules that went into effect with the 2018 Tax and Job Act: if you leave your job and the loan is current at the time you leave your job but then the loan goes into default because you left your job, you will have until your tax return deadline (including any timely filed extension) to make the loan current by depositing the outstanding balance into an IRA (and thereby avoid the taxes and penalties that would otherwise apply).
Please keep in mind the multiple loan rules:
Under those rules, the sum of the balances of a participant's outstanding 401k loans under a single 401k plan (using the highest outstanding balance of each loan over the last 12 months) can't exceed 50% or $50,000 whichever is less. Thus, if you took a $50,000 loan and paid it back within 6 months, you would need to wait another 6 months before you could take another $50,000 loan.