Dirty Little Secret – Self Directed IRAs

Are you interested in diversifying your retirement savings and exploring more options than stocks, bonds, and mutual funds? With a Self-Directed IRA (SDIRA), it opens up the opportunity to invest beyond capital markets – with real estate!

**There is a Dirty Little Secret about investing in Real Estate using a Self Directed IRA!!!

That’s right: get into property investment without debt or tapping personal finances. As an SDIRA holder, not only will you be able to choose from various types of real estate investments but you will also benefit from increased diversity as well as hedging against inflation. But make sure that whatever decision is made complies with IRS regulations, so your plan status remains qualified for tax exemption purposes.

The IRS rules are very strict. We have included some below.

What your SDIRA can own:

  • Land, whether it is undeveloped or is developed.
  • Residential real estate
  • Commercial real estate (apartments.)
  • Trust Deeds
  • Mortgage Notes
  • Real Estate Options

There are rules governing Self Directed IRA rules. However, we strongly suggest, encourage, more or less demand, you speak to your own tax advisor before setting up an SDIRA to invest in apartment syndications, or self-storage, office parks, stand alone commercial spaces like Dollar Stores, Drug Stores, etc.

The IRS rules are stringent. We have included some below. Let me stress: Some, not all.

You and your family can not benefit from SDIRA owned property. The IRS calls yourself and your family “Disqualified persons.” This includes yourself, your spouse, children, parents, grandparents, grandchildren, and their spouses, any lineal ascendants, and descendants.

Technically speaking, your mother-in-law may be allowed to benefit from an SDIRA. I would not take that chance, though! Your adopted children could not benefit.

The disqualified persons listed above can not benefit in any way. They can not rent your property or work on the property. Furthermore, the companies that you and all the other disqualified persons own can not work on the property. These transactions are called Prohibited transactions.

If your father owns a roofing business, you hire the business to re-roof your apartment building. That would be a Prohibited Transaction. Do not do that!

How to fund your IRA

  1. Transfer funds from another IRA you own. By transfer, we mean from one IRA account directly into another IRA account. Never pass retirement through your personal account, not even for 1/100th of a second.
  2. Rollover funds from a previous employer’s 401(k). A rollover, unlike a transfer, is a reportable event.
  3. You can always contribute money from your personal accounts to your SDIRA. Maybe set up an automatic monthly contribution.

How do you fund a real estate purchase?
There are several ways to fund a real estate purchase. You can:

Making a direct purchase using the funds in your IRA is the easiest and simplest way to purchase a property. Your IRA pays cash for the investment and holds the property title. Also, you will avoid a large UBIT tax. See below under “Must Read Gotchas.”

Partner your IRA funds with personal funds, money in another IRA you own, or with funds owned by another person. You divide ownership based on the investment of both parties. Read our report to learn more about Partnering with Self-Directed IRAs.

Make a leveraged purchase. Your IRA can borrow money to purchase a property with a non-recourse loan.

Form an LLC in which the SDIRA holds an interest. Then title the property in the name of the LLC. Have the assistance of a competent legal and/ or tax advisor before entering into this type of arrangement!

Then you need to direct your IRA Custodian to make the Purchase.

All related income and expenses must be paid to or from the IRA. Rent checks must be sent to your property manager or directly to your Custodian to be deposited into your IRA account. If you employ a property manager or hire a plumber to make repairs, they need to be paid directly from the IRA.

All contracts and agreements for roofers, plumbers, property management services, tenant agreements, insurance policies, and tenant agreements every agreement must be in the custodian name.

It will look something like this: Custodian Name FBO, Your Name, Account #11223344. FBO means “For Benefit Of.”

Must read Gotcha’s
This has more caveats and gotcha’s than investing with a Self Directed IRA:

  • The DIRTY LITTLE SECRET is UBIT, Unrelated Business Income Tax. UBIT is triggered in most real estate investing because income that is generated from debt-financed property is taxable. It is taxable up to the full 37% tax bracket and kicks in only after $14,450 in income for 2023.
    • We know people who, after they have retired, under the supervision of a competent accountant, have legally started a company, set up a Solo 401k Plan, and rolled their SDIRA into the Solo 401k to solve their UBIT penalty. Personally, I would only do this with help and supervision from our accountant, as it requires knowledge and planning.
  • As with the Solo 401k, you cannot use the property. Also, your family members or, in Tax Lingo, a “disqualified member” family.

There many advantages to investing with an SDIRA, but you need to know the downsides too.

I beg of you, if you are considering using an SDIRA seek help from a competent tax advisor. In a simple website article, there is no way you are armed with enough knowledge to set off and buy a property with Self Directed IRA funds.