Self Directed 401k Investing (Roth vs Trad)

5 Replies

So I was reading the BP tax books and a thought popped in my head.

I’m 26 and work as an Engineer making decent money, contributing to a Roth 401k.

My thought is to self direct my 401k to buy a rental once their is enough in the account (while working on rentals with normal income of course. Rehabbing one now.)

If I direct my 401k money to buy a rental property, I’ll have to pay taxes on the income that property produces. I’m not currently taking the retirement deduction because the account is a Roth. If my account is Roth or Traditional I still have to pay the taxes on the income once the property is purchased. Would if it make more sense to use a traditional 401k to take the deductions now as well if I’m going to pay the taxes on the rental income regardless?

Can any CPA’s shed light on this situation? Not sure if I’m missing something. It seems like I’m paying taxes on the income now and I’ll pay taxes on the rental income after the self directed purchase. Thanks for any input!

@Jacob Kenneally

You are not understanding the concept, thus your confusion.

When you establish a self-directed IRA or 401k, there are no taxes. You are just rolling over funds from one plan to another.

When the IRA or 401(k) invests in real estate, the income is not taxed. The income is tax-sheltered into the plan on either a tax-deferred or Roth basis, depending on the type of plan you are working with.

@Jacob Kenneally

Correct. A self directed IRA or 401(k) is still a tax-sheltered retirement plan. instead of the plan investing in stocks, the plan is investing in real estate. It is all about diversification and control for managing your retirement savings.

@Brian Eastman is correct. You can simply roll your 401k into your IRA but it must "match". Roth to Roth or Traditional to Traditional. Additionally, I would recommend you do as much Roth as you can now. Compound interest is a beast if you let it run and your taxes are likely to go up in future years.

Pay the taxes now while it is "cheap"

With that being said, you must tread carefully when investing in real estate through a self directed IRA (which must be set up to invest outside the traditional universe of stocks/bonds).

Even with a self directed IRA, you cannot invest directly into real estate if you plan to do some work yourself. Painting the walls or retiling a bathroom is a no go - sort of viewed as "self dealing".

Lots of people invest in notes through their self directed IRAs. This is a strategy you can explore further. 

Be sure to research UDFI and UBIT if you plan on using leverage.