Self-Directed Solo 401k: It’s A Smart Retirement Plan, Not Complicated
It is quite often that people are afraid of the unknown, and even lose crucial opportunities that could otherwise transform their life (both personally and professionally).
But, you are not one of those people; you’re a real estate investor, especially considering that you’re reading this post right now. Getting started in real estate itself requires a tremendous amount of courage, and you’re already past that, or about to cross that bridge.
How about using an investment strategy that could have an even bigger impact on your financial future?
Invest in real estate with a self-directed Solo 401k
At Sense Financial, a major part of our clientele comprises of real estate investors, and we get to hear a lot of investing strategies and creative financing stories. Let’s get the basics covered before starting with these investing experiences.
What is a self-directed Solo 401k plan?
It is a qualified retirement plan for owner-only businesses and self-employed professionals. The key differentiator is its ability to offer investment self-direction. The plan owner can literally invest in a wide variety of investment options, with little to no custodial involvement.
Some important features of the plan include:
- Contribution limits: Up to $59,000 in 2016 (including catch-up contributions of $6,000 for professionals above 50 years)
- Roth Solo 401k: Unlike regular Roth IRAs, a Roth Solo 401k allows high-income professionals to make post-tax contributions. Any investments made through a Roth Solo 401k qualifies for tax-free withdrawals, although some exceptions may apply.
- Participant loan: A Solo 401k plan allows participant loans of up to $50,000 or 50% of the account balance. It comes with an affordable interest rate (prime rate plus 1%) and requires a minimum of one payment per quarter.
What are the various investment options available in a self-directed Solo 401k?
The available investment options may vary depending on the Solo 401k provider but some of the commonly available options are listed below.
- Real estate (commercial and residential)
- Tax liens
- Tax deeds
- Precious metals
- Hard money lending
- Private businesses
- Traditional option of stock and bond
How to purchase real estate with a self-directed Solo 401k plan?
In order to simplify the process, let’s divide it into two phases.
How to establish a self-directed Solo 401k?
- Once you have chosen a Solo 401k provider to establish your plan, the provider will create Solo 401k plan documents for your trust/account.
- Initiate rollover of your retirement funds into the Solo 401k plan. The IRS allows rollover from pretty much every retirement plan, including traditional IRA, SEP IRA, SIMPLE IRA, Keogh plans, defined-benefit plans, 401k, 403b, 457, and even thrift savings plans. The only rollover exception lies for a Roth IRA plan.
- You open a non-custodial bank/brokerage account for your Solo 401k plan/trust and deposit the funds in your account.
Purchasing real estate with your self-directed Solo 401k plan
- After a successful funds rollover, the purchase process is exactly the same as in the case of a traditional real estate transaction. Start with finding a property that suits your investing criteria.
- After finding a suitable property, you can pay right out of your Solo 401k plan’s account. However, if you do not have sufficient funds in your plan, the IRS allows you to fund the purchase using a non-recourse loan.
- The key is to purchase the property in the name of your Solo 401k plan/trust. Further, any expenses, such as closing costs, incurred during the transaction should go out of the retirement account only.
- After the transaction is complete, any rental income generated from the property should be redirected to the plan itself. Similarly, any repair or maintenance expenses should come out of the plan only.
Benefits of investing in real estate with your Solo 401k account
- Deferred taxes: Any income generated by a rental property held within a Solo 401k account enjoys tax-deferred growth. You need to pay taxes only at the time of withdrawal.
- Use Roth Solo 401k to enjoy tax-free withdrawal: If you invest in real estate using a Roth Solo 401k plan, you are creating a tax-free income source for your future. As per the current IRS regulations, Roth Solo 401k withdrawals are not subjected to taxation.
- Hedge retirement savings from market fluctuations: On top of these benefits, adding real estate to your Solo 401k account safeguards your investment from market movements. The recession of 2008 wiped out up to 25% of the average retirement account balance of an American working for the past 20 years.
Real estate success stories
Now that you have a detailed idea of a self-directed Solo 401k plan, let’s discuss some interesting success stories we learned from our clients.
Sandra, a retired professional from Long Beach, CA, was able to generate a monthly passive income of $4,000 by investing in real estate using a Checkbook IRA account. Before using a Checkbook IRA, her retirement account was heavily invested into stocks, and considering the market uncertainties, she was aiming to achieve a stable income using real estate. After purchasing a 4-plex using her Checkbook IRA, she was not only able to create a stable income source but, her rental income surpassed that of her earlier stock and bond income.
In another incident, Debra and Tim used their Checkbook IRA account to purchase a property in Belize. They fell in love with the city during their multiple sailing trips, motivating them to purchase a property. The couple plans to build a vacation home on the property and rent it out until their retirement.
These are among some of the investing stories that we hear from our clients. What we enjoy most about these success stories is the freedom achieved by these investors using a self-directed Solo 401k plan for real estate investing. After all, shouldn’t you be the in charge of your financial future?
Start exploring creative investment opportunities today!