Flipping and saving on taxes with a Solo 401k

Philadelphia, Pennsylvania
Rehabbing & House Flipping
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Flipping and saving on taxes with a Solo 401k

Marshall Secord
Member since 2021 · 23 posts · 10 votes

Hi BP, I've been flipping houses in Philly for nearly two years and I am coming up on my first year that I need to pay taxes on my gains. I recently met with my CPA to go through some of the best strategies to minimize taxes. I will of course be taking advantage of every write off I possibly can, but I am also interested in deferral strategies. I think a 1031 Exchange is out the window for this year, but I am very interested in what I've been reading about a solo 401k and my ability to make a tax deferred contribution to this type of retirement account that allows me to invest in real estate. Can anybody tell me if they think this is a good idea? I'm hoping that I can take 20k of my 2022 profits and contribute it to a solo401k in order to avoid about 5k in taxes this year. I just want to make sure it wont be a pain to access that money for my next deal. I would need to combine that 20k with funds from a different account and I would need a lender to be ok lending to me knowing that a portion of my down payment / closing costs are coming from this unique retirement account. Can anyone shed some light on this?

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Dmitriy Fomichenko
Solo 401k Expert · Anaheim Hills, CA · Member since 2012 · 18k+ posts · 6k+ votes
3y

@Patrick S.

Hard money is not the only choice of lending for an IRA/401k. There are several lenders specializing in non-recourse financing for retirement accounts, here is the list which includes several banks:

https://www.biggerpockets.com/...

Leveraged real estate inside of an IRA will be subject to UBIT, however Solo 401k is exempt from taxes on leveraged real estate.

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  • Patrick S.
    San Antonio, TX · Member since 2018 · 24 posts · 12 votes
    3y

    1. If you have an investment with self-directed retirement funds, you aren't supposed to have any active participation in the deal.  Even going over and replacing a leaky faucet would be considered an improper activity (let alone managing a full flip) which sort of makes sense, because in effect you are contributing your time and labor and faucet parts into your retirement account, and contributions to retirement accounts have caps, etc.

    2. If you have an investment with self-directed retirement funds, you can't personally guarantee a loan on the property.  If a third party lender is willing to do a non-recourse deal (maybe more likely with hard money lender than a bank for a house purchase) you can use leverage, but it may create UBIT, which is often worse than just paying long term capital gains.

    To me it seems like it's best if you keep contributing $20k a year to your solo401k and investing it in the S&P500 or whatever, and in 10 years when you have enough money in there to do a deal without debt, you can.

    2Reply
  • Dmitriy Fomichenko
    Solo 401k Expert · Anaheim Hills, CA · Member since 2012 · 18k+ posts · 6k+ votes
    3y

    @Marshall Secord,

    If you are self-employed or own a business without full time employees - you can establish self-directed Solo 401k plan which would enable you to potentially shelter over $60K of your income from taxes. In addition, you will have full control over how these funds are invested, you can do alternative investments such as real estate. However all transactions of the 401k must be "arms length" - you can't commingle with your personal finances or personal investments. 

    1Reply
  • Dmitriy Fomichenko
    Solo 401k Expert · Anaheim Hills, CA · Member since 2012 · 18k+ posts · 6k+ votes
    3y

    @Patrick S.

    Hard money is not the only choice of lending for an IRA/401k. There are several lenders specializing in non-recourse financing for retirement accounts, here is the list which includes several banks:

    https://www.biggerpockets.com/...

    Leveraged real estate inside of an IRA will be subject to UBIT, however Solo 401k is exempt from taxes on leveraged real estate.

    2Reply
  • Patrick S.
    San Antonio, TX · Member since 2018 · 24 posts · 12 votes
    3y

    @Dmitriy Fomichenko Thank you for the clarification!  It has been a while since I looked at the rules, but timely advice!

    1Reply
  • William Graham
    Lender · Little Rock, AR · Member since 2023 · 33 posts · 9 votes
    3y

    First, understand that I am not an REI but a business loan broker/private money lender. I can tell you there are specific rules dealing with SoloK. I have my SoloK through Broad Financial, so your best bet is to contact them for information. I have no affiliation with them except to say that I have worked with them in the past.

    https://broadfinancial.com

    0Reply
  • Kevin IveyPro Member
    Flipper/Rehabber · Marysville, WA · Member since 2020 · 216 posts · 126 votes
    3y
    Quote from @Dmitriy Fomichenko:

    @Patrick S.

    Hard money is not the only choice of lending for an IRA/401k. There are several lenders specializing in non-recourse financing for retirement accounts, here is the list which includes several banks:

    https://www.biggerpockets.com/...

    Leveraged real estate inside of an IRA will be subject to UBIT, however Solo 401k is exempt from taxes on leveraged real estate.


     Great info about the UBIT, am I able to roll over an old employer 401k into a Solo401k?

    0Reply
  • Dmitriy Fomichenko
    Solo 401k Expert · Anaheim Hills, CA · Member since 2012 · 18k+ posts · 6k+ votes
    3y

    @Kevin Ivey,

    Solo 401k will accept rollovers from any qualified retirement plan with the one exception: Roth IRA.

    1Reply
  • Rich O'Neill
    Contractor · Chadds Ford, PA · Member since 2015 · 567 posts · 460 votes
    3y

    @Marshall Secord to be compliant with the "arms-length" issue @Dmitriy Fomichenko mentions, if you have friends doing similar deals, or deals you feel comfortable with, you can invest in each other's deals using your retirement accounts. This takes "you" out of their deal and "them" out of your deal to create that arms-length transaction that you still feel comfortable with. Of course, it has to be with someone you trust and a deal that is vetted by you. 

    0Reply
  • Dmitriy Fomichenko
    Solo 401k Expert · Anaheim Hills, CA · Member since 2012 · 18k+ posts · 6k+ votes
    3y

    @Rich O'Neill,

    This can work as long as this is NOT a quid pro quo transaction. 

    1Reply
  • Rich O'Neill
    Contractor · Chadds Ford, PA · Member since 2015 · 567 posts · 460 votes
    3y

    @Dmitriy Fomichenko good point. In your experience, what would be a red flag for a quid pro quo? Outrageous terms? Too timely? 

    0Reply
  • Dmitriy Fomichenko
    Solo 401k Expert · Anaheim Hills, CA · Member since 2012 · 18k+ posts · 6k+ votes
    3y

    @Rich O'Neill

    Here is a defenition for quid pro quo:

    "Something that is given in return for something else or accepted as a reciprocal part of an exchange."

    Here is an example: We both have Solo 401Ks and we flip homes. I approach you with this offer: I lend you money from my Solo 401k on one of your flips and in return you lend funds from your 401k on one of my flips. Regardless of the terms or timing this would be a prohibited transaction. 

    2Reply
  • Rich O'Neill
    Contractor · Chadds Ford, PA · Member since 2015 · 567 posts · 460 votes
    3y
    Quote from @Dmitriy Fomichenko:

    @Rich O'Neill

    Here is a defenition for quid pro quo:

    "Something that is given in return for something else or accepted as a reciprocal part of an exchange."

    Here is an example: We both have Solo 401Ks and we flip homes. I approach you with this offer: I lend you money from my Solo 401k on one of your flips and in return you lend funds from your 401k on one of my flips. Regardless of the terms or timing this would be a prohibited transaction. 


     Wow that is a pretty strict rule. Thanks for the clarity. 

    0Reply
  • Marshall Secord
    OP
    Member since 2021 · 23 posts · 10 votes
    3y

    Thanks everybody. I'm actually wondering if my best strategy would be to open a solo 401k; make a maximum contribution; defer taxes on that contribution and potentially jump down a tax bracket since that contribution would no longer be considered part of my annual income. Then I could take a loan out from my account for 50% of what I contributed, tax and penalty free. I would just need to pay it back over the course of a few years with interest being paid to myself. This way, I can save on taxes and stay relatively liquid, while some of my money does stay in my retirement plan.

    0Reply
  • Todd Goedeke
    Contractor · Sheboygan, WI · Member since 2016 · 917 posts · 266 votes
    3y

    @Patrick S.investors in retirement accounts use leasing of their STVR property to avoid"active" participation rules. You can typically lock in a 18%+ ConC ROI with a triple net lease or Master lease. Management company furnishes the property.

    0Reply
  • Dmitriy Fomichenko
    Solo 401k Expert · Anaheim Hills, CA · Member since 2012 · 18k+ posts · 6k+ votes
    3y
    Quote from @Marshall Secord:

    Thanks everybody. I'm actually wondering if my best strategy would be to open a solo 401k; make a maximum contribution; defer taxes on that contribution and potentially jump down a tax bracket since that contribution would no longer be considered part of my annual income. Then I could take a loan out from my account for 50% of what I contributed, tax and penalty free. I would just need to pay it back over the course of a few years with interest being paid to myself. This way, I can save on taxes and stay relatively liquid, while some of my money does stay in my retirement plan.

    You certainly can do this.

    0Reply
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