March 28th, 2020
Using a Self Directed IRA Palos Verdes Real Estate
A self direct IRA is an alternative investment that many folks are using to save for retirement. Let’s get a couple of administrative things out of the way first in terms of disclosures. I’m not providing in this article any investment advice nor making recommendations of any kind. I’m merely introducing to you a concept that many investors are using within current United States tax law. Now if this article gets a bit “too much in the weeds” of detail, feel welcome to go to A Beginner’s Guide to Real Estate Investing to start thinking about investing
With a self directed IRA you can expand and divesify your investment opportunities beyond the stock market, gaining access to a variety of assets such as mortgages, notes, real estate, precious metals and other private palcements. There are a number of account administration service providers that help you with self directed IRAs, one of which is EntrustGroup
All IRAs must have a custodian or trustee to administer account funds. If you use a bank or brokerage firm as your IRA custodian, the investment offerings are often limited to their specific products; stocks or mutual funds. With a self-directed IRA, you establish your account with an administrator, like Entrust, which administers without promoting any particular investments. A fully self-directed retirement plan gives you the freedom to invest in many types of assets—anything that is not prohibited by U.S. Treasury Department regulations or the Internal Revenue code.
The term “self-directed” simply means that you, as the account owner, have complete control over selecting and directing your IRA investments. With a self-directed account, you can buy real estate, notes, limited partnerships, commercial paper, livestock, gold, commodities, and many other types of assets. These assets will then be owned by your IRA, and all the income they generate will accumulate in your account to provide you with a sturdy nest egg upon retirement.
- Accounts Receivable Financing
- Building Bonds
- Commercial Property
- Contracts of Sale
- Improved or Unimproved Land
- Limited Liability Companies
- Tax Lien Certificates
- Tangible Asset Deeds
- Securities, CDs, Stocks, Bonds, Mutual Funds
- Shopping Centers
- Gold Bullion
- Joint Ventures
- Like and Unlike Exchanges
- Limited Partnerships
- Private Placements
- Single-Family and Multi-Unit Homes
- U.S. Treasury Gold and Silver Coins
- Trust Deeds and Mortgage Notes
Consult with your tax advisor or financial planner on the best course of action for you and your savings. If you decide that self-directing is for you, The Entrust Group can help you get started.
There are only three types of investments that are not permitted within a self-directed IRA: insurance, collectibles (with some exceptions for coins and metals), and S corporations. Anything else is available to you through these retirement accounts, but certain IRS regulations apply. Your retirement plan is intended to benefit you when you retire, and not a moment before. Transactions that can be interpreted as providing you immediate financial gain, or those that involve “disqualified persons,” are not allowed. If your transactions violate the basic intent of your IRA, your account may be subject to penalties. (See IRS Section 4975 for a complete list of prohibited transactions.)
The following are considered disqualified persons:
- The IRA holder and his or her spouse
- The IRA holder’s lineal descendants, ascendants, and their spouses
- Investment advisers and managers
- Any corporation, partnership, trust, or estate in which the IRA holder has a 50% or greater interest
- Anyone providing services to the IRA, such as the trustee or custodian
Some common questions revolve around the use of real estate and disqualified persons. For instance, you cannot buy a rental property with your IRA and then allow your child to live in it, even if it’s rent-free. Similarly, you cannot use it for vacation purposes or let certain family members use it.
Prohibited Transactions You cannot use your IRA for the following purchases or transactions:
- Borrow money from the IRA for your own use
- Sell, exchange, or lease property you already own to your IRA
- Transfer IRA income or assets to disqualified persons
- Lend IRA money or extend IRA credit to disqualified persons
- Furnish goods, services, or facilities to disqualified persons
- Allow fiduciaries to obtain or use the IRA’s income or assets for their own interest
Establishing a Self-Directed IRA
There are three basic steps to begin self-directing your IRA funds:
- Open a self-directed account. You can open an account by downloading a New Account Kit online, or by speaking with an administrator such as an Entrust representative. Visit www.TheEntrustGroup.com to find an office near you.
- Fund your account. You can fund your account by making a contribution or by rolling over funds from another IRA or 401(k) account.
- Choose an investment. If you would like help with exploring real estate as an investment vehicle, contact me
Buying Real Estate with Your IRA: An Example
Linda Chang opened a self-directed IRA because she was interested in purchasing rental property to save for retirement. She had funds sitting in a 401(k) plan from a former employer, as well as money in an IRA with a bank. She decided to consolidate her accounts into a self-directed account. Initially, Linda opened her account online, but then chose to speak with an administrative representative to talk her through the steps involved in making a purchase. She already had a property in mind—a duplex in a well-maintained neighborhood, and the owner was ready to sell. The cash flow on the property was $19,600 per year gross and $13,000 net. She decided to make an all cash offer of $250,000. Here is the process Linda followed to purchase the property for her IRA.
She made an offer on the property in the name of her account (The Entrust Group, Inc. FBO Linda Chang IRA #12345). This is a key element. The purchase must be made by the IRA, not the account holder. The seller accepted the terms, and Entrust supplied her with a Buy Direction Letter to complete the purchase. She sent it back to Entrust, along with a copy of the contract, which she read and approved. Entrust signed the contract on behalf of her IRA, and sent $15,000 of her IRA funds to the title company as a good-faith deposit, in accordance with the instructions on the Buy Direction Letter.
A preliminary title report showed no prior liens or other conditions that would preclude the purchase. Linda read through all the closing documents and approved them. The title company then sent the approved documents to Entrust, and Entrust signed them on behalf of Linda’s IRA. Entrust sent the required documents and the remaining purchase funds from Linda’s IRA to the title company to complete the purchase. The deal is closed, and Linda’s IRA now owns the property. The deed is recorded in the name of Entrust for the benefit of Linda’s IRA (The Entrust Group, Inc. FBO Linda Chang IRA #12345) and sent back to Entrust. Entrust
maintains the deed in safekeeping.
Now, Linda must update the rental agreements with the current tenants who are instructed to make all payments to “Entrust FBO Linda Chang IRA #12345.” The rental income is then deposited into an FDIC-insured cash account at the custodial bank. Payments cannot be made directly to Linda. This would violate the
conditions of the IRA. Service providers, such as utility providers and insurance companies, are also told to bill in the name of the IRA, as described above. All expenses, including property taxes, must be paid from IRA funds. Linda simply has them send the bills directly to Entrust to pay from her account. If you have purchased property before, you can see that this process is similar to that when making a real estate purchase personally. The only difference is that there is an intermediary, Entrust, performing the transactions on behalf of the IRA. It is your IRA that makes the purchase, receives the income, and pays the expenses. For more information on real estate investments, visit the Entrust Real Estate Center.
Not Enough Money in Your IRA
Linda was lucky that she had enough funds in her IRA to make an all-cash offer. What are your options if your IRA doesn’t have enough cash? Transfer or rollover funds from another IRA or qualified plan. If funds are available in another plan, you can usually transfer or roll them over to a self-directed IRA without penalty.
Borrow money. An IRA can borrow funds, but it must be via a non-recourse loan—financing where the property is the only collateral—because you personally cannot be obligated to pay the note. If the IRA borrows money to purchase the asset, the debt financing is also subject to unrelated business income tax
(UBIT). Sell another asset in your plan. This is an easy way to raise funds. If your IRA is invested in stocks, mutual funds, or another asset, you can sell them to free up the money. Bring in partners. To avoid taking out a loan, your IRA can partner with others, including disqualified persons, to purchase an asset. With this strategy, all income and expenses would be divided according to the portion owned by each partner. However, after the original purchase, you, or any other disqualified persons, could not partner with your IRA.
Self Directed IRA Palos Verdes Real Estate
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