Allowable Assets That Can be Held in a Real Estate IRA
You want your IRA investments to yield the highest possible return, and in recent years, thanks to the updated rules on allowable IRA transactions, more and more self-directed IRA, SEP and simple IRA owners are investing in real estate opportunities. The more common ones are properties purchased to rent out, raw land, and shared property or tenant-in-common (TIC) ownership.
Real Estate IRA Investing in Single Family Rental Properties
House purchases are going down while house renting is rising in most areas of the country. Because of this, it might make more sense for the self-directed IRA investor to purchase real estate for his IRA and rent out the properties.
[0:17 – Free book giveaway – The Self Directed IRA Handbook – Call or email us for information]
[0:38 – What types of real estate assets can you invest in your IRA?
[0:45 – Single Family Homes and use them as rental properties – Terry suggests using a property manager.]
[1:19 – Multi-family properties – Many investors enjoy investing their IRA in duplexes, fourplexes, and apartment communities.]
[1:37 – Commercial real estate options, include office buildings, warehouses, and storage units.]
[1:57 – Raw Land aka Freezer property – This might be a good investment for a young investor. Be sure to check out the video to learn why.]
[2:32 – Contractual interests in real estate – E.g. Real Estate Options can be held in an IRA. Terry explains how this works. You don’t’ want to miss part.]
[3:16 – Buying a Tenant in Common Interest in Real Estate – Make sure that you avoid involving your IRA with disqualified parties in this type of arrangement.]
[4:35 – Having debt in an IRA will be covered in a future video, especially if you don’t have enough cash in your IRA.]
The most common of IRA real estate investments, investors will often buy single-family homes through their IRA and rent them out. The tenants’ monthly payments are written directly to your custodian (e.g. Sunwest Trust) because the IRA holds the title of the property and ensures that income is classified as being tax-deferred. The IRA will also cover the cost of repairs and maintenance.
“All property-management and property-specific expenses must be made through the IRA, so the IRA must have sufficient cash to pay these amounts. Having to rely on outside capital to fund management expenses can lead to the loss of tax benefits or the incurrence of penalties.” – Investopedia
Using Your Real Estate IRA to Invest in Multi-Family Rental Properties
Multi-family rental properties – duplexes, fourplexes, apartment buildings, co-ops, condominiums — are another popular investment.
Again, when purchasing a property as an IRA rental property investment, it is wise to hire a property manager to handle repairs or to do any significant amount of work on the property.
According to the IRS IRA prohibited transaction guidelines, you cannot pay yourself for managing a property owned by your IRA and neither can you manage the property for free, as this would be considered a prohibited transaction and taxes and penalties may be applied to your IRA. Also, your work on a property that is held by your IRA is considered a contribution of labor made to your IRA by a disqualified party, namely you, which is also prohibited.
Alternative IRA investments – Commercial Real Estate Investment Opportunities
Commercial real estate includes any type of building used for business — office buildings, warehouses, storage sheds, etc. While not as common as other types of IRA real estate investments, they can yield good monthly rental returns and increase agreeably in value during housing market surges. Under section 512(b)(3), however, self-directed IRA owners must be careful that they are only renting square footage. Any additional services that go above regular care and maintenance can be construed as leverage and will be taxed accordingly.
IRA Raw Land Investment – A Consideration for Young Investors
Raw land is a good investment for younger IRA owners because of the waiting time for land to increase in value. Land quite far out of city limits now may eventually be swallowed up by progress and be worth far more. In real estate lingo, it’s called a “freezer property” or “buy and hold.” You buy it, stick it in the freezer and don’t worry about it for several years.
While your property matures, your IRA pays for the annual taxes and covers any land maintenance required, so a buffer amount will need to stay in your IRA account to cover those expenses. Other than that, raw land can be held with little action necessary until it is ready to be sold.
“Real estate must be solely an investment; the taxpayer or related parties cannot use it in any way.” —Journal of Accountancy
Buying Real Estate Investments with Your IRA – Contractual Interest
You can buy an option to buy a piece of real estate at a certain price, and later on, can either exercise that option and buy the property or turn around and sell it. This method of investment can work out well because you never actually have to own the properties, you can just choose to buy if it makes good investment sense or sell the options to another buyer or investor if it’s not in your best interest. If you are attracted to buying a contractual interest in real estate, then speak with a real estate agent to get more information.
Tenant-in-Common Interest Investing
A tenant-in-common (TIC) interest is a real estate term for buying property with one or more people. When doing this with an IRA fund, you must purchase the piece of real estate with someone who is not a disqualified person (see below).
If four people buy the property, for example, then each party would own an undivided 25 percent interest in it. As an IRA investor, your IRA would own the right to 25 percent of the rental profits, sale proceeds, etc., so 25 percent of all the income for the property would be deposited in your IRA.
As with all IRA investments, you are not allowed to make IRA prohibited transactions – the improper use of your IRA assets in a way that benefits you or other disqualified persons. Disqualified persons include members of your family, such as your spouse, ancestor, lineal descendant and any spouse of a lineal descendant, any party that has any say in managing your IRA or its assets, and any entity in which you own at least a 50 percent share. For example, you cannot sell property that either you or a disqualified person owns to your plan, or buy property for personal use – e.g. to vacation in; neither can you use a property you bought with your IRA as collateral against a loan.
These are just a few examples of allowable IRA real estate investments, but there are many more opportunities for the prudent IRA investor. This post is for informational purposes only, and we always recommend you speak with a CPA or tax attorney for specific answers to your particular investment situation.
You can purchase real estate with your self-directed IRA.
Investing your IRA in raw land may be a good choice for the young investor.
You can own a portion of real estate by sharing the property with other investors.
Summary of Recommended Resources:
Journal of Accountancy The Dos and Don’ts of IRA Investing
Investopedia Tenants In Common – TIC
Law.Cornell.edu 26 U.S. Code § 4975 – Tax on prohibited transactions
IRS Rents from Real Property – Rendering of Services
Full Video Transcript: Allowable IRA Investment Alternatives with Terry White
Single-Family Rental Property
We talked about things that you can’t invest in. Today we’re going to talk about things that you can invest in. The first thing on this table—table 2.1 in the book—is single-family rental property. We have a lot of people that buy single-family homes and then rent them out. The only caution I would give you is that you should have a property manager to actually take care of the property. Now, you can find a renter. You can collect rent as long as the checks are made payable to either your LLC, which we’ll talk about later, or Sunwest Trust as your custodian, but you’ve got to stay away from any repairs, as well as any significant amount of work on the property.
The next thing is the multi-family rental property. We have clients also—I can think of one in particular that owns a fourplex, and they bought it, paid cash for it, and then their IRA just gets the income, the monthly income from those four units, and that works out really well for them.
Commercial Real Estate Investment Opportunities
Another thing to think about is commercial real estate. Personally, I am not familiar with any of our account holders that own commercial real estate, but I’m sure there are some. Commercial real estate could include an office building. It could be an office warehouse. It could be a number of warehouses. It could be storage sheds—there are many things. That’s a huge area that you might consider investing your retirement.
Raw Land Consideration For Young Investors
The next thing is raw land. I think raw land is a great investment for maybe a younger person. You might find some land that’s in the path of progress. You can buy it pretty cheap now. A lot of people in the real estate business call that freezer property. You just buy it, stick it in the freezer, and don’t worry about it for several years. Your IRA would have to have the money—the available cash in the IRA to pay the taxes, and depending on where the property is, and what kind of situation it is in, you might have to pay to have it cleaned up every once in a while. So, that’s another great investment idea to consider: Contractual interest in real estate.
Real Estate Option Idea
The one thing I could think of would be a real estate option. You can buy an option to own a piece of real estate or to buy a piece of real estate, and the fun thing about it is that you could buy the option, which is an option to buy a piece of property at a certain price. Then later down the road, you could exercise that option and buy the property yourself, and hopefully, it would be at a good price. Maybe the value’s gone up, or maybe, who knows what the situation might be if you turn around and sell it, or you could actually sell the option itself. Therefore, you might never actually own the property, you just have an interest in it—you have the right to buy it. You could sell that option, and I’ve heard speakers talk about doing that and how valuable that might be.
Tenant-in-Common Interest in Real Estate
The last thing is buying a tenant-in-common interest in real estate. In this case, you’re buying the real estate along with someone else. Now we will continue to talk about disqualified parties. You have to be careful not to be a tenant-in-common with a disqualified party, but if you had another interested party in buying a piece of real estate that was not a disqualified party. It might be someone you know who has an IRA. It could be anyone as long as it’s not a family member or someone that provides services to your IRA. You could buy a tenant-in-common interest with that person or that entity, and what that means is your IRA would own a specific percentage of that property. You might buy a, let’s say, 25% tenant-in-common interest, and so that gives your IRA the right to 25% of that—which means your IRA receives 25% of the profits, 25% of the sale proceeds, whatever you happen to do with that property in the future.
There are a few great ways to invest in real estate with your IRA, and as we go along and talk about other things, we’ll be coming back to this, so we’ll talk more about investing in real estate because I think that it’s a great place to invest in. We’ll talk about having debt in your IRA, and how you might go about doing that if you didn’t have enough cash to actually own a piece of real estate.
The next few videos will be about things that you can invest in, and I will talk about experiences that we’ve had and people that I know that have invested in these various things just to give you an idea of what’s available for your IRA. So stay tuned for future Tuesday at 2:00 videos for more information, and again, if you’d like this Self-Directed IRA Handbook, just get in contact with us. We’d be more than happy to send it to you. Mat Sorenson is an expert in this field, and this is a great book, as well as a great resource for you to have. I appreciate you watching this week, and I look forward to seeing you next week.