All Forum Posts by: Doreen Chaisson

Solo(k)s do offer higher contribution limits, but the salary deferrals are tied to the income you earn in that qualifying business. I've seen people suggest you can have a Solo(k) by doing something as simple as setting up an LLC for selling items on CraigsList or Amazon. While this may be true, the salary deferral you would be eligible to put into that Solo(k) would be tied to the income you earn in that LLC - you can't take earnings from another fulltime job and claim them as salary deferrals into your Solo(k).

The only true difference between using a Self-directed IRA and a Solo(k) when it comes to investing in real estate is that leveraged real estate held in a Solo(k) is not subject to UBIT tax on any income earned. Otherwise, the process and the prohibited transactions are the same across the board.

There are many Self-Directed IRA/Solo(k) 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, are they a regulated financial institution, have they ever been sanctioned by any regulatory bodies, how many accounts and how much in assets do they administer? How many unique alternative assets do they custody? Do they charge for asset reviews?

If you have any 1099 income, you can have a Solo(k), which has higher contribution limits than a Self-Directed Roth IRA does. However, keep in mind that any salary deferral must be from THAT income source - you would not, for example, be able to put any money earned from your military service into your Solo(k).

With either type of account, the IRS permits you to buy and hold Real Estate as long as it is not property you or any of your disqualified parties (parents, spouse, children, children's spouses) currently own, have ever owned, or currently live in. It has to be strictly for investment purposes. Any income generated flows back to the retirement account, and any expenses or repairs, including insurance, property taxes, painting, mowing and so on, must be paid for with retirement funds. The IRA owner and any disqualified parties are prohibited from doing any work on the property themselves (sweat equity) as this is considered improving an IRA asset with non-IRA funds and is an illegal contribution. Outside vendors/contractors/property managers who are willing to bill the IRA directly must be used.

However, you mention you only have about $15k in your current Roth, which you could transfer to a Self-Directed Roth account with a special asset custodian for purposes of Real Estate investing. You would not be allowed, per IRS regulations, to use that IRA money, within the IRA account, and personally take out a mortgage for the balance of the purchase as it is a prohibited transaction to use an IRA asset as collateral for a personal loan.

The good news is that your IRA/Solo(k) CAN take out its own mortgage in the form on a non-recourse loan. In this scenario, the IRA puts a down payment and has a mortgage on the balance. Each month, the IRA/Solo(k) makes the mortgage payment. Non-Recourse lenders willing to lend to retirement accounts have varying requirements on both the amount of down payment they require (typically about 30%), the terms and length (generally 3 - 5 year ARMs) and they type of property they will lend on (generally NOT raw land or mobile homes).

Leveraging a Real Estate purchase inside an IRA will result in a tax called UBIT -Unrelated Business Income Tax. This means a percentage of the income generated by the property will be subject to taxation (paid by the IRA). This percentage is roughly equal to the percentage of the purchase that is financed. So if the IRA put down 60% and financed 40%, roughly 40% of the net income generated would be subject to this tax. As the mortgage loan is paid down, the amount of income subject to UBIT decreases accordingly.

Solo(k)s are not subject to UBIT on leveraged Real Estate.

It's always best to call a qualified Solo(k)/IRA Custodian to talk through your particular investment scenario. They will alert you of any possible prohibited transactions you need to be aware of.

There are many Self-Directed IRA and Solo(k) 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, are they a regulated financial institution, have they ever been sanctioned by any regulatory bodies, how many accounts and how much in assets do they administer? Many alternative asset custodians shy away from single member LLCs, which is the primary "checkbook control" vehicle people are needing. Others will accept them, provided you agree to appoint a special advisor to the LLC (licensed attorney or CPA), whose role is to review and approve all transactions of that LLC to ensure compliance with IRS regulations regarding self-dealing and other prohibited transactions.

I've seen a couple suggestions to combine ownership to consolidate insurance coverage. It should be noted that any property that is owned personally cannot be "transferred" to the IRA-owned LLC. Per the IRS, it is a prohibited transaction to buy from, sell to or transfer ownership between IRA owner and IRA.

The IRA owned-LLC could be taken as an "in-kind" distribution to the IRA owner, to accomplish a change in ownership. However, doing so would be a taxable event and, if done before age 59 1/2, would also result in early distribution penalties.

Both SD IRAs and Solo(k)s are good vehicles for real estate investing. If you are self-employed and your business qualifies you to have a Solo(k), then that may be the better route due to the much higher contribution limits and absence of UBIT on leveraged assets. Generally your business can have no other full-time employees working more than 1000 hours per year. There are some other exemptions you should research. Only the account owner and spouse are eligible to be Solo(k) plan participants.

With respect to borrowing from your Solo(k), you can borrow up to $50,000 or 50% of your plan value, whichever is less, provided your Plan document has a provision allowing participant loans. You have to make regular ( at least quarterly) and substantially level payments back to your Solo(k). The loan must be paid back within 5 years (unless you are using it to buy a principal residence) or it will be deemed a taxable distribution.

While you can take multiple loans, the aggregate amount borrowed from the account cannot total more than $50,000 or 50% of the account value in one year. There is a formula to figure out how much may be available for additional loans in subsequent years while an initial loan is being paid back.

This is a strategy that should be discussed with your accountant. You will be paying the loan back with personal income that has been taxed once already, and then paying tax on the same money again when you take the funds out as a distribution in retirement, unless they are in a Roth (and your Roth contributions have been taxed once already).

Be advised not all custodians will allow an IRA or Solo(k) to have its own checkbook directly. They require the IRA/Solo(k) owner to set up a single member LLC, into which the retirement funds are invested. The LLC uses that cash to set up its own banking account. The IRA/Solo(k) owner can then write checks out of that account to pay expenses related to the investment, and all transactions have to be reviewed and approved by a special advisor, a licensed attorney or CPA, that is appointed by the LLC in order to prevent prohibited transactions. (IRA/solo(k) owner writing an LLC check to himself or any disqualified party).

There would be no 1099 issued by either the Solo(k) custodian nor by the banking institution that holds the actual funds of the LLC's checking account.

The money that left the Solo(k) to fund the investment in the LLC (which actually has the checkbook control) is not reportable as it was for an investment, not a taxable distribution to you, the account owner.

Similarly, after that investment money flowed into the LLC's checking account, any checks written to pay expenses related to the LLC-owned asset is also not reportable because the money did not go to you as the Solo(k) owner, it went to pay expenses related to the asset. (Much the same way your personal bank does not issue you a 1099 on the money you use from your checking account to pay your personal bills).

The only time a 1099 is issued is if you do a Roth Conversion or if you take a distribution of funds out of your Solo(k) or IRA.

Additionally, if you have any personal ownership at all in a property (or any disqualified parties do: spouse, parents, grandparents, children, children's spouses, etc) it is a prohibitied transaction for your IRA to issue a loan collateralized by that property. Again, this is a prohibited transaction called self-dealing. It is advisable to speak to an attorney or CPA familiar with IRS rules pertaining to self-directed, or contact a qualified self-directed IRA custodian and run your scenario by them. While they are prohibited from giving tax, legal or investment advice, they will be able to tell you if what you are planning to do is a prohibited transaction.

If you plan to use a Self-Directed IRA in your scenario, and you wish the IRA to invest in the LLC, the LLC has to be a newly structured entity that you fund with IRA and 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 you and your IRA co-invest in 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. 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. Finally, if you and your IRA co-invest in an LLC, that LLC must have enough money to purchase the property and pay any other related costs. 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 purchased the property directly (or was the sole investor in the LLC), then you 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, are they a regulated financial institution, have they ever been sanctioned by any regulatory bodies, how many accounts and how much in assets do they administer?