All Forum Posts by: Doreen Chaisson

If I understand you correctly, you are planning to combine personal funds and your Roth IRA funds as tenants-in-common on the purchase of investment property? This is allowable, with the following caveat: there is a prohibited transaction called "enabling". Enabling means using IRA funds to enable a personal investment. Since your IRA is putting down such a small amount, and your personal funds are financing the lion's share of the investment, if you are ever audited you will be asked to prove you did not need the IRA's money to make the investment - that you had other personal cash/assets on hand you could have used, but chose to use the IRA to include it in a good investment opportunity. If, on the other hand, you've scraped together every last personal penny you have, and are just falling shy of the amount needed, so are using your IRA funds to bridge that gap, then it would be considered enabling.

If enabling is a non-issue, there are a couple of other things to keep in mind: First, expenses generated by the property must be paid proportional to ownership. If the roof or furnace need fixing, or there's a tax bill due, those bills have to be paid by you and your IRA, proportional to ownership percentages. Similarly, any income generated by the property need to be split proportionally between you and your IRA's ownership. If you don't have a property manager collecting the rent, your tenants will have to write out TWO rent checks each month - one to you and the other to your IRA.

You and any disqualified parties are prohibited from using the property, living in the property, or making any repairs or doing maintenance or upkeep on the property.  You'll need to hire outside vendors for these items.

Using your SD IRA to buy/flip houses with a frequency that brings your IRA to Dealer Status will definitely trigger UBIT tax. Your IRA becomes a type of Real Estate Operating Company. Any Operating Company owned by an IRA is subject to UBIT on 100% of the Net Profits, after deductions and depreciation, etc.

The UBIT tax due must be paid with IRA funds, not by the IRA owner. Any repairs/improvements made on the properties must also be paid by the IRA owner, and the work performed by non-disqualified parties.

Buying/holding property for investment purposes or buying, fixing and selling a very limited number of properties per year will not generally trigger UBIT (as long as no financing is used by the IRA to purchase the properties), but it's important to always have a knowledgeable CPA and/or attorney review your proposed investment strategy to make sure you're not inadvertently running afoul of any IRS regulations.

The asset of your IRA will actually be the single member LLC, not the piece of property. Because a single member LLC has it's own bank account and gives you what many call "checkbook control", income generated from the property that the LLC owns flows back to the LLC's bank account (not to the IRA), and expenses are paid out of it. Your custodian will ask for an annual valuation of the LLC, in the form of a K-1 or other statement of value, which will need to be prepared by the Special Advisor (more on this later) or an accountant. This determines the value of your IRA asset. Obviously, the LLC can return "dividends" to the IRA if it wishes, and when the property is sold and the LLC dissolved, all funds must go back to the IRA. The LLC is free to sell a property, keep the funds, and purchase additional property. All funds in the LLC's bank account must be used either to support & maintain its asset (the piece of property) or flow back to the IRA. It cannot be used to pay salaries to the IRA owners or any disqualified parties, be taken as distributions to the IRA owner, etc. All of that money is technically IRA money and can't be used by the IRA owner or any disqualified parties.

A couple of things to keep in mind with an IRA-owned LLC. First, if you plan to have your IRA invest in an LLC, the LLC has to be a newly structured entity that you fund with IRA and perhaps also personal funds simultaneously. If you set up and fund the LLC with personal funds ahead of time, your IRA will not be allowed to invest, as it is a prohibited transaction to buy from/sell to your IRA.

Furthermore, if your IRA alone, or with a combination of personal funds, owns an LLC, it is considered a "single member LLC" as you and your IRA are the only investors and you are a disqualified party to your IRA. It is do-able, but some custodians may not accept this investment structure due to increased regulatory scrutiny of these entities since 2009. Those that do will most likely require that you appoint a special advisor (licensed CPA or Attorney) to review and sign-off on any LLC transactions to make sure the LLC isn't running afoul of any self-dealing rules (eg - using LLC funds to pay for your own mortgage or daughter's braces).

If your IRA is the only investor in the LLC, the IRA can send additional cash infusions to the LLC. If you co-invest personal funds with IRA funds, adding additional cash to the LLC, either from the IRA or yourself personally, is prohibited. This is a "one and done" type investment, so it's important to plan carefully and ensure the LLC has enough capital at the outset for the purchase of the property, any unexpected repairs or expenses, or to cover gaps when there may be no income generated by the property.

Finally, if you and your IRA co-invest in an LLC, the LLC cannot get a mortgage on the property because the IRS does not allow you to use an IRA asset to secure a personal debt.

If the IRA purchases the property directly or is the sole investor in the LLC, then the IRA or IRA-owned LLC may be able to get a Non-Recourse Loan on the property. There are some lenders who do this. They are generally 3 - 5 year ARMs, and they require a higher down payment and cash reserve. There are some property types, like raw land and mobile homes, that these lenders will not finance.

There are many Self-Directed IRA custodians out there. It is advisable to do your due diligence and ask about such things as how long have they been in business, are alternative assets their sole focus, are they BBB accredited and rated, and most importantly, are they a regulated financial institution and have they ever been sanctioned by any regulatory bodies. It might be helpful to know how many accounts and how much in assets do they administer, and so forth. Any regulated bank providing IRA administrative and custodial services will provide FDIC insurance on uninvested cash in your account.

What often gets overlooked is the type of company you are choosing. IRA providers can be put into three separate categories: Custodians, Administrators, and Facilitators.

Custodians are the first type of company, and are usually the most common. They're either a bank, credit union, or non-bank custodian approved by the IRS (usually a broker dealer who obtains IRA approval). Custodians are permitted to custody assets held in an IRA under IRC Section 408. They're also subject to strict regulatory oversight at a State or Federal level. Custodians tend to take a more conservative approach when reviewing alternative assets for investment, as they want to avoid the custody of any assets that may be involved in prohibited transactions. Alternative Asset custodians cannot give any tax, legal or investment advice, cannot assist with the structure of an investment, and cannot endorse, promote or align with specific investment sponsors.

Administrators are the next type of company. Essentially anyone can be an administrator, and their main function is to perform administrative functions only. Because of this, they also need to have an identified custodian for the self-directed IRA named in the account disclosure documents. Administrators are only subject to regulation if required due to profession (CPA or attorney), not for role as administrator. This allows administrators to be much more liberal in accepting assets and allows the ability to align with investment sponsors. Review fee schedules carefully – there may be separate charges for whatever 3rd party custodian they are using.

The third company type is a Facilitator. They educate investors on the process of self-directed investing or assist in setting up single-member LLCs for either "check-book control" or to purchase a franchise or ROBS (Roll-Over Business Startup). They may also provide administrative services for the LLC. Like Administrators, Facilitators must have an identified custodian for the self-directed IRA and are only subject to oversight on a professional level. They are also much more liberal in accepting assets and can align with investment sponsors. Again, review fee schedules carefully – there may be separate charges for whatever 3rd party custodian and/or administrator they are using.

So when you're looking for someone who offers a self-directed IRA, make sure you know the type of company you're dealing with.

If your IRA owns an asset 100%, for example a piece of rental property, all of the income generated from that asset must go back to the IRA as a return on investment (just like any expenses related to that IRA-owned asset must come from the IRA. You can't pay for home repairs/maintenance costs with your own personal money nor do repairs yourself). If you take receipt of the money personally, instead of having it flow back to the IRA, that would be a prohibited transaction, and treated as a distribution from your IRA. You'll pay taxes on that money, as well as an early distribution penalty if you are under age 59 1/2.

If you split ownership of an asset with your IRA (Example: your IRA buys 50% of the property, you purchase the other 50% with personal cash as tenants-in-common), then your share of the income would flow back to you based on your percentage of ownership. It would still be taxable income, but would not be considered an IRA distribution.

While I am in no way qualified to give tax or legal advice, I suggest you check in with your CPA and/or Attorney on this. If your IRA-owned LLC is buying/selling multiple properties per year, it may be considered a real estate operating company, based on your state's criteria, whose income would be subject to UBIT, regardless of whether the purchases were financed or not. IRA-owned operating companies are subject to UBIT on 100% of net profits, whether or not any assets are leveraged.

Yes, you will report the value of the money you converted to a Roth as taxable income for the year in which you do the Roth conversion.  Check with your CPA relative to when you can have "access" to some of the Roth funds.   You have access to Roth contributions at any time, however funds converted to a Roth from another retirement account are subject to early distribution penalties if taken within 5 years of the tax year the conversion was done.  Here is a summary from Motleyfool.com:

Penalties on Conversions From a Traditional IRA to a Roth IRA

The penalty rules regarding conversions are a bit different than those for annual contributions, which may be taken at any time for any purpose free of income taxes and penalty. An early withdrawal of a conversion contribution has a different twist. The early withdrawal penalty applies to a distribution of conversion money from a Roth IRA when:

1. The distribution is made within the five-tax-year period starting with the year that the conversion was distributed from a regular IRA; and
2. Only to the extent that the distribution is attributable to amounts that were includable in gross income as a result of the conversion.

If you had the property rezoned while it's in your IRA, that might be a good solution for your distribution goals, if your local zoning allows for it. You'd go from having one asset in your IRA to having 5 separate assets, so you might want to check to see what impact, if any, this would have relative to the fees you are paying your current custodian to hold your Real Estate asset. Each parcel would need to be reregistered/deeded in the IRA's name. At that point, you would then be able to distribute individual assets (parcels) in their entirety, allowing you to begin making personal use of them, while still accomplishing your goal of minimizing the annual tax burden of these distributions. Again, I echo Loren's suggestion to check with your own attorney or accountant before making any changes.

I apologize for my error - I was referring to the 59.5 early distribution penalty.

Hi there -

First, I am sure you are aware that it's a prohibited transaction for you to be making any personal use of the acreage owned by your IRA account. If it abuts the land you personally own, you cannot use it, farm on it, or make any other kind of personal use (hunting, fishing, etc). I am assuming you did not purchase these 10 acres from yourself, but from an unrelated 3rd party. It is a prohibited transaction for IRA owners to buy from or sell to their IRA. There can be no sale or exchange between IRAs and IRA owners.

You could take the land out of your IRA as a distribution-in-kind. If you take the 10 acres out of your IRA as a distribution-in-kind, and you are not yet 70 1/2, you will pay taxes on the value of that distribution, as well as an early distribution penalty.