Note Investor · Pasadena, CA · Member since 2009 · 849 posts · 544 votes
15y
You can buy good paper for 18% - you just need to find a motivated seller, just like buying real property.
I always try to structure the deal where the WORST case scenario is that I get paid off with the monthly payments. If I buy right (ITV of 60% or less), the BEST case scenario is that they stop making payments.
Developer · Santa Clarita, CA · Member since 2008 · 15k+ posts · 10k+ votes
15y
Originally posted by Bob Oliver:
Originally posted by Will Barnard:
I agree with Loc. Great advise. The other option I would consider would be to make hard money loans with reputable rehabbers and charge 12% + 2-3 points with 6 month max terms giving you 16-18%+ returns.
Will-I like that scenario. Let's talk more.
As I just mebntioned in the post above, you would be committing a usury violation without a licensee partner. On top of that, I don't pay such high fees because A. My deals have such low LTV's B. I am experienced enough and show a tracj record of safety for lenders, and C. I have funds available at 10% (or 12%) without points so I never am in a position where I would need to pay that much. Others are possibly becuase they lack my experience or have higher LTV's and less skin in the game.
Developer · Santa Clarita, CA · Member since 2008 · 15k+ posts · 10k+ votes
15y
Originally posted by Chris Luithly:
Will,
I am still learning about the SDIRA options.
Are you saying that rehabbing and flipping within a Roth SDIRA would be subject to the UBIT?
Chris
Yes, since flipping is condiered an active business and competes with non IRA funds, your IRA would be subject to UBIT.
@Jon - Why not loan the funds out at a set rate of return short term until you have time to find a note? Might as well earn some interest in the interim.
Investor · Fort Wayne, IN · Member since 2009 · 391 posts · 257 votes
15y
Will,
Thanks for sharing that bit of information.
I have done a little bit of research on the UBIT and from my perspective, this seems to be an an overreach to tax an IRA, IMHO. When you read the definition, it appears to be directed at Non-profits engaging in a for profit business.
By definition, you want to grow your IRA. However, it is important to know the rules even if you do not agree with them.
I was just about ready to transfer to a SDIRA and flip houses.
I will have to study more carefully to ensure that it makes sense.
So, I am now back with John: What to do with my Roth IRA.
Developer · Santa Clarita, CA · Member since 2008 · 15k+ posts · 10k+ votes
15y
Chris,
Here is an example which may better illustrate why UBIT is necessary and fair:
Two coffee shops on opposite corners of the street. One is owned by an IRA account and one is under standard individual ownership.
The standard owner sells a large coffee for $2 cup. Assuming both have equal operating expenses and equal cost of goods sold, and both use the exact same ingredients (all of this for an apples to apples comparison), and both have a net profit of $.50 per cup, the IRA coffe shop can charge $1.90 per cup because it does not incur any income taxes, therefore all profits are gained, whereas, the standard owner coffee shop must pay income taxes based on the $.50 per cup net income.
In such a scenario, the IRA biz would gain an advantage over all other standard owner coffee shops. This is a situation the government avoided by taxing active and competitive businesses held in IRA accounts to level the playing field.
Investor · Cincinnati, OH · Member since 2010 · 1k+ posts · 928 votes
15y
The following is in Lasser's "Real Estate Investors Tax Edge", as an example of something you can do in your SDIRA:
"Caitlin is engaged in the business of buying properties, fixing them up, and selling them on a short-term basis (she holds them for less than one year). She is paying many thousands of dollars every year in taxes because these sales are short term and thus do not qualify for the favorable long-term capital gains rates. She is also labeled a RE dealer and thus has self-employment tax issues as well. Rather than owning all these properties in her own name, she decides to utilize a SDIRA to make all the purchases and sales. By doing so, Caitlin defers all capital gains taxes (if done in a regular IRA) or her capital gains are tax free (if done in a Roth IRA). She thus has more funds available for real estate investing because she is now saving 25 to 35% in taxes every year."
It only cites the UBIT as an issue when you have debt-financed property within an IRA.
Investor · Cincinnati, OH · Member since 2010 · 1k+ posts · 928 votes
15y
A little more from another site:
"I emailed one of Entrust's business competitors and here's the answer I received:
Yes, it is legal to do flips and rehabs in a SDIRA.
The IRS often views flipping houses as "running a business" in your IRA and whereas they do not say how many flips equals running a business, common practice seems to be three. If you fix and flip more than 3 houses per year in your IRA you may be seen as running a business.
Running a business is not prohibited but it leads to a tax called UBIT. You can read about this at http://www.IRS.gov if you will look up Pub 598. UBIT is reported on a Form 990t.
Rehabs in an IRA are perfectly fine except you cannot do any of the work. You are not allowed to provide goods, services or facilities to your IRA. You may screen tenants, collect rents and hire contractors but you cannot do the work yourself. If you do the rehab work yourself they call it an "over contribution of sweat equity" and that's viewed to be the same as making a cash contribution to your IRA. Best to keep rehab work arms-length by hiring a third prty."
Real Estate Investor · Audubon, PA · Member since 2009 · 13k+ posts · 8k+ votes
15y
Originally posted by Mark Yuschak:
... I feel like I'm stuck in a rut with my SDIRA and haven't done anything with the money in my account.
Originally posted by Jon Klaus:
I haven't done anything yet. ...
Having just had an hour long SDIRA "refresher", one thing that sticks in my mind from that which is relevant to these two posts: It is SELF directed; if self isn't directing it, then it is going nowhere (and will just earn money market rates of return - pretty low these days).
Developer · Garland, TX · Member since 2008 · 8k+ posts · 4k+ votes
15y
Ha! I've typically been accused of being too quick to invest my cash. Now with a few percent of my net worth in cash, it's going nowhere. Nothing wrong with keeping a little powder dry...
Residential Real Estate Broker · Grand Blanc, MI · Member since 2008 · 885 posts · 316 votes
15y
Steve, that is so true! HA! I'm just treading carefully...I suppose too carefully. Until I figure out exactly what I want to do I bought some gold stocks since it's a better return than the MMA rate.
David, what you posted is spot-on with what my accountant has told me. I'll need to check with her on the source of her info.
Developer · Santa Clarita, CA · Member since 2008 · 15k+ posts · 10k+ votes
15y
Originally posted by David Beard:
The following is in Lasser's "Real Estate Investors Tax Edge", as an example of something you can do in your SDIRA:
"Caitlin is engaged in the business of buying properties, fixing them up, and selling them on a short-term basis (she holds them for less than one year). She is paying many thousands of dollars every year in taxes because these sales are short term and thus do not qualify for the favorable long-term capital gains rates. She is also labeled a RE dealer and thus has self-employment tax issues as well. Rather than owning all these properties in her own name, she decides to utilize a SDIRA to make all the purchases and sales. By doing so, Caitlin defers all capital gains taxes (if done in a regular IRA) or her capital gains are tax free (if done in a Roth IRA). She thus has more funds available for real estate investing because she is now saving 25 to 35% in taxes every year."
It only cites the UBIT as an issue when you have debt-financed property within an IRA.
David, unfortunately for Lasser and all readers, the information is 100% INCORRECT! Ask any competant accountant/tax advisor familiar with SDIRA's and UBIT. It amazes me that such false information is mass produced and sold.
The fact is, flipping properties in either a traditional or ROTH IRA Will incur UBIT. It is an active business that competes with non IRA entities and as such, will be subject to UBIT.
Will, I'm going to e-mail him and ask him to defend his position with tax court precedent or something concrete.
I don't need any resume, it is irrelevant. I have consulted with my CPA and attorney and UBIT is apllicable on a ROTH or traditional IRA when it involves flipping properties. Just ask the IRS, they will tell you the same thing.
Developer · Garland, TX · Member since 2008 · 8k+ posts · 4k+ votes
15y
According to my CPA, it may not be as simple as asking the IRS, who sometimes gives different and conflicting answers. You can go to the IRC, the internal revenue code, which obviously isn't clear. Then you can go to case law where a court has ruled on the issue and use it as precedent. Or you can seek your own ruling letter from the IRS, which may apply to you but not to someone else in the same or similar situation. There is ambiguity here, which we have to live with and navigate wisely. I'm far from a CPA, do one of you want to give us more clarity?
Investor · Round Rock, TX · Member since 2010 · 8k+ posts · 4k+ votes
15y
Rulings like this are always murky because the IRS overreaches its authority. What is described above is similar to the tax treatment of wrap notes where the IRS wants to ignore the installment basis and tax all of the phantom gain in year 1.
My guess is that the case law differs too and hinges on very specific points in each case. I have had to pay tax experts for rulings on stuff like this before for our fund and it is very murky and case-specific. There are many instances where the intent and what actually happens differ for reasons that were unclear when the project was accepted. Take for instance a project where one intends to fix and hold. Someone comes along and offers the investor a great price for the property even though they weren’t advertising it and he sells in the “short term†making it a “business activity.†The intent was to hold long-term and that isn’t what actually happened. What happens then? You can come up with hundreds of scenarios like this.
Real Estate Investor · Sylvania, OH · Member since 2008 · 61 posts · 9 votes
15y
I would make hard money loans on properties that fit my criteria. My outlook would be "just in case they default" I would want it to be a house in an area I would like to invest in.
Investor · Cincinnati, OH · Member since 2010 · 1k+ posts · 928 votes
15y
The author was a senior trial attorney for the IRS ("resume irrelevant"??). SDIRA companies are indicating that this can be done as well, on a relatively small scale, which is where many of us would fall. I don't know the answer at this point, but I don't think it's by any means clear enough to be dogmatic about it.
Developer · Santa Clarita, CA · Member since 2008 · 15k+ posts · 10k+ votes
15y
I am by no means trying to be dogmatic, I only operate outside of grey areas when funds from IRA money are involved and encourage others to do the same.
I certainly would not want to be on the losing end of an IRS judgement to tax the IRA for flipping, would you? Therefore, going from info from my CPAs, flipping in a ROTH IRA with intent to do so multiple times will encounter UBIT.
Certainly anyone can ask for permission and if granted, have at it. I know of an investor who had a SDIRA and one of the prohibited transactions would be for your IRA to loan or purchase on a residnece you (as an individual) already owned. However, this investor got 3 bids from lenders for a loan on his residence, then asked the IRS if he could have his IRA loan the money at the same interest rate as the lenders who quoted. They granted it because in that case, the IRA owner was not persoanlly gaining from the IRA and the IRA.
So, if you ask and get approval, then anything is OK. Anything less can be gray and likely wind up costing your IRA. I error on the side of caution with retirement funds.
Residential Real Estate Agent · Costa Mesa, CA · Member since 2008 · 1k+ posts · 380 votes
15y
Let me start by saying that if my 22 year old self were ever to meet the 26 year old version of me that found arguing tax law with regard to retirement accounts the most interesting thing he could possibly be doing at 10:30 on St. Patrick's Day, let's just say there'd be some harsh words.
That said- what we still don't know Will is what defines a "business" as opposed to a passive investment, and what determines intent? Going back to my thread, you do a good job of explaining why fix and flip RE is a business, as the houses are considered "inventory" and it would have an advantage over a similarly structured but non-tax advantageous business. I'm almost ready to buy that argument.
What you don't address though is how note arbitrage is considered a business. To me, that's a lot more akin to buying a stock that goes up in market value and selling it for a profit than it is flipping a house. Like you point out, there's nothing you can do to increase value. You may be able to buy at a discount, but is that enough to define "intent"? Don't you attempt to buy stocks that are undervalued and sell them later? Similarly, if you buy a note and then need to foreclose and sell the underlying asset, you aren't doing anything to the collateral itself, just selling an asset that you own. Like I said, you don't pay UBIT on other asset classes, so why this one if the capital growth was not your intent and it is not a business?