How To Use Your IRA To Buy Real Estate
How To Use Your IRA To Buy Real Estate
In life there are a lot of things we learn by accident, which can be very beneficial to us. Sometimes understanding these processes can take a while. Sometimes after proper explanation …BLAM, you get it. That is exactly what happened to me. When I first heard about the topic, I will discuss in this E-book, it was perplexing, however, I knew that it could reap huge rewards in the future. It took a while for me to understand the process. I remember trying to tell a buddy who owned an apartment building about _________ and what it could do for him. I remember getting it all confused (like telling someone a good joke, but while you are trying to say the good joke, in mid sentence you realize that you don’t remember it all and it is not coming out right, so you just say forget it because you are screwing the joke up). Fortunately, by mistake I came across the company Pensco Trust who has educated me on this great opportunity of____________. I am considered one of their “Preferred Professionals.” My learning curve is your benefit. Enough with my teasing games, the purpose of this E-book, is to educate you on Self Directed IRAs. So buckle up!
This publication is made to provide basic information in regard to Self Directed IRA’s. It is presented with the understanding that I am not engaged in rendering accounting or legal advice. If you need legal advice services of a proficient professional should be contacted. I can not in any way guarantee that this material will be properly used for the purposes intended and I assume no responsibility for its correct and proper use.
We all know that Social Security (SS) is struggling and the money there will eventually disappear. Prior to 1935 there was no personal SS. All that existed were people saving their money in their bank/under the mattress. In 1935 SS was created. Remember that this was the same time period of the Great Depression. Keep in mind the life expectancy back then was like 62 years old. Now it is 76. Baby Boomers make up a huge portion of the population. Baby Boomers are retiring everyday. You want some hard facts? Well according to Research Corporation Study: The New Landscape of IRA Rollover © 2005 BISYS Retirement Services.
• The first of the baby boomers reached age 59.5 in July 2005
• 4 million more will reach age 59.5 each year
• 24 million people will reach age 65 by 2010
• 55% plan on to work after “retirement”
Now on the flip let’s say there was no problem with SS. Have you ever talked to someone who gets SS checks? They don’t get a lot of money. It is sad sometimes. I am not trying to offend anyone, but the majority of the older people you see at Wal-Mart greeting you and marking your receipt didn’t have a “nest egg” to rely on when they “retired”. The topic I will discuss will prevent that from ever happening to you and I.
1974 congress created IRA (Individual Retirement Account) to supplement Social Security. We know these are programs to help shelter money away for tax benefits. Typically people go after the traditional investments. We always hear about stocks, bonds and CD’s. Yes all investments have risks, but the thing about these investments is that you can not affect the outcome of the business/your return. You are a spectator, watching the game. Also, you can’t use leverage (an example of using leveraged will be discussed later). Also, with stocks if any little blip in market occurs, like oil, war, scandal, etc. your value could go down. Real estate does go up and down but generally you don’t lose all of your money in worst case scenarios. Real estate appreciation has kept pace or exceeded inflation. It is a cycle. When it goes down, the value does not go down instantly (like Enron).
Self Directed IRA (SDI) an overview. Now I am not bashing stocks, I have them, if you talk to any financial planner, they will tell you to always be diversified in your investments. This is what SDI does for you. Ideally you should have SDI, stocks, bonds etc.
SDI has been a well kept secret. Why? I think it is because of ignorance, and I also the folks on Wall Street don’t benefit. A broker at an investment company will not tell a person about it, because they can’t make money off of the transaction (let alone having them understand how it works). The last reason is because there are “professionals” who don’t have a clear understanding on its use.
To get a SDI, you would either have to go through an Administrator, or a Custodian. What is an Administrator? Banks, brokerage firms (like Charles Schwab) and insured credit unions.
What Is A Custodian? There are very few self-directed IRA/401k custodians in the United States. In order to be a custodian for self-directed products, the custodian is known as a “passive custodian.” This simply means that they are obligated by law to provide only custodial and administrative services for the qualified plan. They can provide NO investment advice. This tremendously reduces the fees associated with traditional investments because you, the investor, make all of the investment decisions. They are also FDIC insured.
What is the role of the custodian
• Holds your IRA assets
• Performs all IRA transactions
• Keeps all IRA records
• Provides all IRS required reports
• Keeps IRA plan in compliance
• Provides access online access
There are only three things your SDI can’t invest in and they are
• Collectibles/antiques
• Life insurance
• Stock of a sub-chapter “S” corporation (these are companies that are traded publicly on the stock market)
As long as the transaction is for investment purposes and you have not created a “prohibited transaction” (will discuss later) the list of investments are endless.
The beginning of a long list of real estate you can buy with your SDI
• Foreclosures, Options, Pre-construction, raw land, apartments, offices, strip malls, mobile homes, public storage, any type of investment property
• Trust deeds/mortgage notes
• Privately held C-Corp stock, LLC membership . The rules on prohibited transactions
• Cant buy from or sell to a disqualified/prohibited person
• Cant make personal use of property
• Cant use SDI as collateral for personal loan
Personal use prohibitions
You can’t personally use a vacation home. Even if you rent it out for 354 days and spend one day in it, this is illegal. You can’t perform maintenance on the property. You can hire a maintenance crew using the money coming out of your SDI, but you can’t physically work on the property. You also can’t hunt on raw land, dock boat at a SDI owned boat slip. There was a person, who worked with Pensco, that bought a specific area of a water fishing spot in Alaska. The person, couldn’t fish there, so she leased out the area to other fishermen and received profit.
More on disqualified persons
You can’t buy from a person providing services to the investment. It has to be a clean slate. It can’t be business between employer and employee. If you have your SDI in an LLC and you want to buy property, you will not be able to if you own more than 50% of the company. You can’t buy/sell to a member of your family including spouse, ancestor, lineal descendant and any spouse of a lineal descendant. Meaning, not you parents, children, your son in law etc. But, you can buy/sell to a sibling. There can’t be a sale/exchange/leasing of any property or providing a loan between a plan and a disqualified person. Lastly, you can’t buy something you already own (SDI can’t be used for funds to pay off your mortgage. There should be no perceived direct or indirect personal benefit to the account owner).
Basic rules
• Can’t involve the account holder, his/her spouse a lineal ascendant/descendant of family nor the spouses of your children and you can’t use SDI funds to pay off a personal mortgage
• Can’t make personal use of property (must be for investment purposes only)
• Can’t personally guarantee the loan for your SDI nor use the SDI as collateral for a personal loan
• Can’t work for or take income from an SDI investment
• Can’t have your spouse, nor your family members (your siblings are ok) own the property prior to its purchase by your plan
• Can’t have your business lease or be located in or on any part of the property while it’s in your plan. You may receive any property as a distribution from your plan as a retirement benefit
What transactions are prohibited?
The following are defined as prohibited transactions when they involve the account holder:
• Borrowing money from the SDI
• Selling property to the SDI
• Receiving unreasonable compensation for managing assets for the SDI
• Using the SDI as security for a loan
• Buying property for personal use with the SDI
• Collectibles/antiques
• Life insurance
• Stock of a sub-chapter “S” corporation
50% rule
If a disqualified person(s) owns 50% or more collectively of an entity, then the SDI can’t engage in a transaction with the entity because the company is considered a disqualified person.
Using IRA as collateral
You can’t use your SDI as collateral for a loan. If you will get a loan it must be an unsecured loan. If you default in paying the loan, the lender can’t go get the money out of your IRA, nor can they go after personal assets.
Any type of prohibitions have penalties, if you violate them. SDI is no different. Here are the consequences if you do not comply:
• Loss of IRA status resulting from prohibited transaction
• Loss of tax exempt status
• Income tax on account value
• Penalties and interest
• Possible audit to determine extent of prohibited transactions
If you really want more information on the rules check out:
• IRS code 4975
• UDFI/UBTI: IRS code 598
• Department of Labor (DOL) 2004-8
Tax court cases
• Swanson 1997
• Rollins 2004
• Rousey v. Jacoway 2005
Ways to invest by using your SDI
• Property purchase all cash
• Property purchase using a loan (NOTE this has not always been the case where you can get a loan from a bank for your SDI. These past couple of years a few establishments are offering loans to SDI. I have those contacts, contact me and I will explore options for you)
• As a member of an LLC or “C” Corp.
• As a lender on a trust deed (mortgage note)
• As a partner in a joint venture
• As a Tenants in Common T.I.C. member (if any of the terms I use are unfamiliar to you, look them up online)
• Make a private loan to an entity or person (hard money loans)
To give you ideas of what investors have bought through Pensco:
• Largest US massage school
• Cypress tree farm in Costa Rica
• Fish farm in Salinas, CA
• Interests in movies, plays
• Condo in Lithuania
• House on a private lake in Colorado
• Thoroughbred race horse
• Nudist resort in Virgin Islands
• Over 35 U.S. banks
• Napa Valley B