Investing in real estate with self-directed IRAs, Part 2
15 Oct 2013

Investing in real estate with self-directed IRAs, Part 2

Now that you have been introduced to self-directed IRAs, or SDIRA, and what they can do for real estate investors, it’s time to learn what an investor cannot do with their SDIRA.

GARD Pro Not Registered

You may have heard of a “Checkbook IRA,” which is a marketing term for investing your IRA into a newly created LLC that is owned by the IRA with a checking account created for the LLC. This is not an actual type of IRA product.

LLCs can be used for various reasons, and not all are related to real estate. When deciding to use an LLC, you should consider the following:

  • Are you going to have multiple investors’ other than yourself investing into an entity?
  • Are you going to have multiple tenants (real estate) or multiple limited partners (hedge fund)?
  • Are you going to buy multiple assets (several properties, several hedge funds, or several promissory notes)?
  • Are you going to have to write and receive multiple monthly checks?
  • Do you want to avoid transaction fees and annual custodial fees for each asset you own?

Choosing an LLC is solely dependent on the goals and needs of the IRA holder. Typically, if the IRA holder is going to make one purchase to hold long term with minimal need for checks to be sent from the IRA for expenses, repairs etc., there is no need for the LLC. With the LLC, the IRA holder has the ease of writing checks on behalf of the LLC.

They can benefit anyone who is self-employed and can be a real estate investor’s best retirement plan.

It is important to clarify that the IRA is the “Member” of the LLC, and while the IRA holder can be the “Manager” of the LLC, they cannot pay themselves a salary to do so.

GARD Pro Not Registered

This leads to the discussion on prohibited transactions. Prohibited transactions mainly revolve around the people involved in the transactions. Those who are not allowed to have any interaction with the IRA are known as prohibited people. Prohibited people include the IRA owner, their spouse, and the owner’s lineal such as child, grandchild, great-grandchild etc and lineal relatives.

One type of prohibited transaction is the sale, lease or exchange of property between an IRA and a prohibited person. Lending money from an IRA to a prohibited person is also not allowed. IRA holders cannot furnish goods or services between an IRA and a prohibited person. Transferring income or assets or use of them by an IRA to a prohibited person is the final prohibited transaction.

Examples of prohibited transactions are:

  • An IRA holder buys his wife’s first starter condominium.
  • An IRA holder buys a condo for her son to use while at college.
  • An IRA holder buys commercial property and then leases it to himself for his office.
  • An IRA holder lends money from her IRA to her father for medical expenses.

SDIRAs are in fact, incredibly versatile giving investors a multitude of financial options.

It is important to know that your IRA can do business with the above disqualified persons if you come together at the same time on a new asset with no prior interest or ownership of any of the involved parties. The initial capital contributions will forever create an established ownership percentage among all parties.

An example is as follows:
A married couple finds a rental property for $100K and each has an IRA worth $50K each. They would come together at the same time, put down an initial deposit, let’s say $2.5K each, title the deed as each 50% owners, then both close with $47.5K each. The numbers could be 60/40, 80/20, but again the initial capital contribution dictates the percent of ownership and ultimately profit realization.

While self-directed IRAs seem to have a lot of rules and restrictions, they are in fact, incredibly versatile giving investors a multitude of financial options. They can benefit anyone who is self-employed and can be a real estate investor’s best retirement plan. As long as you understand what an SDIRA is capable of, you can use it to its full potential to ensure you always have money somewhere to invest with.

James A. Jones is a national speaker and educator, and the most published author with 6 books in the Self-Directed IRA industry. He is the Founder and CEO of the Self-Directed IRA Investment Institute and Vice President of Business Development for Kingdom Trust Co. He has pioneered the use of self-directed IRA’s in the Crowd funding space, and serves on the Board and Co-Chair of the Investor Committee for the Crowdfunding Intermediary Regulatory Advocacy Group.