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Many investors will set up a traditional or Roth IRA as a means of saving for retirement. Currently, investors under the age of 50 can contribute up to $6,000 per year into an IRA. Whereas those over the age of 50 can contribute up to $6,600 per year. Investors who have been contributing to an IRA for years or even decades may find that they have accumulated hundreds of thousands of dollars invested in a traditional portfolio consisting of stocks, bonds, and mutual funds.
Investors often do not realize that, by moving their IRA funds into a self-directed IRA, they can diversify their retirement portfolios by investing in alternative asset classes, including but not limited to real estate. Individuals who have been pumping cash into retirement accounts, so therefore they do not have cash on hand to invest in real estate deals; often times will find this is an attractive way to invest in real estate. Furthermore, utilizing a self-directed IRA to invest in real estate offers significant tax benefits.
Most financial institutions offer a self-directed IRA,
sometimes called a self-directed option. This usually allows
someone to self-direct into stocks, mutual funds, and ETFs.
Read on to learn more about how to invest in real estate using your IRA. An often overlooked vehicle for investing in real estate.
What is a Self-Directed IRA?
Unlike traditional and Roth IRAs, in which a financial advisor or wealth manager makes the allocation on investors’ behalf. An SDIRA gives investors total control of how to invest. The investments available to those using an SDIRA also tend to be more encompassing. Especially compared to those made available by traditional IRA custodians.
Using an SDIRA, an investor can self-direct retirement funds into alternative investments such as real estate. Any income generated by investing in alternative investments is returned back to the SDIRA. It then continues to grow tax-deferred just as it would in a traditional or Roth IRA.
The Step-by-Step Process to Investing in Real Estate with Your IRA
Identify an SDIRA Custodian
Someone who wants to invest in real estate using their IRA will need to roll those funds into an SDIRA account with an SDIRA custodian. Some SDIRA custodians are specifically set up to manage investments in alternative assets. Some of these will have specific platforms in place to make investing in real estate especially easy. Identify various SDIRA custodians, compare them, and then determine which is right for your specific investment objectives.
Determine How SDIRA
Funds will be Allocated
There are a few ways to allocate funds when moving from a regular IRA to an SDIRA. Someone might choose to liquidate all assets prior to moving funds from one account to another, particularly if they plan to reinvest a substantial portion of those funds in real estate immediately after transfer.
Another option is to roll funds from one account into another, while maintaining the investments as-is (i.e., not liquidating but rather just moving, while maintaining existing positions). This strategy is best for someone who is interested in investing in real estate but who has not yet identified a specific opportunity and wants their funds to remain invested in the interim.
Once funds have been rolled over, the investor will then want to decide what portion, if any, of their funds to invest in alternative investments like real estate.
Have the
SDIRA
Custodian
Facilitate the
Transaction
After deciding which real estate investment you want to make, the SDIRA will request copies of all pertinent paperwork including the subscription agreement, private placement memorandum and other legal documentation. The sponsor will have provided all of this to the investor. The investor then makes the request to the SDIRA custodian to invest cash from their SDIRA into that deal. The process usually takes less than a few hours for the transaction to be complete.
Facilitate the
Roll-Over from
Traditional
Account to
SDIRA
The step that has the longest lead time (usually 3-5 business days) is transferring funds from your existing IRA account to the custodian of your new SDIRA account. The SDIRA custodian will be able to help facilitate this process. Note: for someone pursuing a specific real estate investment, and who may need to move quickly, it is important to begin this step ASAP in order to ensure the funds have been moved and area available to invest by the real estate offering’s deadline.
Manage and
Monitor Your
Investment
Most SDIRA custodians have an online portal that makes it easy for investors to log-in and track their investments – including real estate investments. This portal will allow you to see the value of your asset, payments coming back into the account (i.e., cash flow distributions), and metrics pertaining to rate of return. At this point, all an investor needs to do is manage and monitor their investment. The rest has already been done.
Related: 8 Mistakes to Avoid Before Investing in Commercial Real Estate
Working with a Third-Party SDIRA Custodian
Most financial institutions offer a self-directed IRA, sometimes called a self-directed option. This usually allows someone to self-direct into stocks, mutual funds, and ETFs. However, most financial institutions require investors to self-direct into traditional stock market-related investments. This is because financial institutions are generally compensated based on a percentage of the assets he or she is managing. If someone chooses to self-direct into non-publicly traded alternative assets, the financial advisor’s compensation decreases.
In order to invest in real estate using a self-directed IRA. You will need to move your IRA over to an alternative asset custodian. Through these providers, individuals can not only self-direct, but they can self-direct into alternative assets like real estate. An alternative asset custodian will generally charge a flat fee. For example $400-500 per year. For investors selecting to self-direct their own investments.
Will You Pay Taxes Upon Rolling into an SDIRA? (No!)
One of the biggest hesitations people have about moving money from a traditional or Roth IRA into an SDIRA is the fear that this will trigger some sort of tax event. This is an unfounded fear. People do not have to pay taxes when rolling funds from one IRA into an SDIRA. It is not considered a taxable event. This means that transferring the account into the SDIRA will keep its value intact, without penalty or taxation.
Is Investing in Real Estate through an SDIRA Right for You?
While SDIRAs remain attractive for those looking to invest in real estate. They are not for everyone. People can fully control their investments when they use a SDIRA. However, not all investors want to shoulder that responsibility.
Some investors would simply prefer to “set it and forget it” simply by having a money manager steering their investments. In which case, an SDIRA is usually not the right option for them. These investors are usually aware that their portfolio is overwhelmingly invested in stock-market related equities. With this they understand that there is inherent risk associated with the market’s volatility.
For people who can stomach that risk and who want to take a hands-off approach to their investments. Working with a traditional financial advisor might be the right approach.
Using an SDIRA, an investor can self-direct retirement funds into alternative investments such as real estate.
On the other hand, those looking to take greater control over their retirement accounts, particularly for those looking to diversify into alternative asset classes like real estate, an SDIRA is certainly worth considering.
SDIRA is not an all-or-nothing approach
Investing in an SDIRA does not need to be an all-or-nothing approach. Someone can keep a portion—even a majority—of their funds invested in traditional stocks, bonds and equities. People might choose to transfer only a portion of their money into an SDIRA for investing in alternative assets. Additionally, they could choose to roll their entire account into an SDIRA, keeping most of their current holdings as-is, while liquidating just a fraction to invest in real estate. By moving funds into an SDIRA now, it provides the investor with the flexibility to invest in alternative assets if and when he or she feels comfortable doing so.
Are you ready to invest in real estate? Contact us today to learn how to use your retirement account to invest in one of Smartland’s latest offerings using an SDIRA.
FAQ
What is a Self-Directed IRA?
From a legal standpoint, a self-directed Individual Retirement Account (IRA) is not different from any other IRA. The term “self-directed” simply indicates that you choose your IRA’s investments and that you don’t limit yourself to the packaged products available at traditional IRA custodians. Most brokerage houses and banks tend to offer self-directed IRAs that are within their own product/service portfolio, so you are somewhat limited if you do business with a specific bank or brokerage company.
How do I buy real estate with my IRA?
The professionals at Smartland can assist you in transferring your existing retirement account to a bank that allows self-directed IRAs. Then we work with you to find a property that you would like as an investment. When you decide on a property, you make an offer and purchase it. Instead of mutual funds and stocks, you can have real estate as an investment and diversify your portfolio.
What type of return on investment (ROI ) can I expect?
There are no guaranteed returns, and there is risk involved in any type of investment. But generally, we don’t present an opportunity unless it projects at least a nine percent return per year.
Can I roll over my IRA into real estate?
Yes. The IRS allows you to invest your IRA in real estate. However, if your present IRA custodian does not allow real estate investments in your IRA, you can set up a self-directed IRA with a custodian that does allow real estate investments. Then, simply transfer your IRA funds to your new self-directed IRA and begin investing in real estate.
Can I use property that I purchase?
Property you purchase within your IRA cannot be used for a personal benefit while it is in your IRA. IRS Publication 590 specifically prohibits personal use of any IRA investment. However, you can purchase property now, manage it as a pure investment property within your IRA, and then convert it for personal use once you start taking distributions from your retirement account. For specific rules and guidelines, please consult a CPA who is knowledgeable on self-directed IRAs.
Does the establishment of a self-directed IRA replace my current 401(k) and will I lose my employer match?
No. The self-directed IRA you set up can be an addition to your 401(k); it does not have to replace your 401(k). You can still contribute as much as you can. Or you can simply contribute as much as you need to get the full company match and then transfer funds into your new self-directed account when the time is right.
What kind of real estate can I own in my IRA?
Your IRA can buy raw land, commercial property, residential rental property, and options on real estate. You can also make loans, such as first and second mortgages secured by real estate.
If I buy rental property with my IRA, can I manage it?
Yes and no. You can perform managerial functions for your property, much the same way you would for any other asset (e.g. making decisions to buy and sell, acquiring legal advice, etc.). This could include making decisions as to whom to rent, what plumber to contract with, or what builder to choose when you add a porch. However, you should not build a porch yourself, or put on a new roof, etc., or, in general, add any material value to your property through your interaction with it. If discovered, the IRS would consider such “sweat equity” activities illegal contributions to your IRA.
Are the gains on income taxable from IRA real estate investments?
No, in most cases. If an IRA buys investment real estate and then sells it at a profit, all income generated while it was held in the IRA, and all the gains resulting from the sale, will be either tax-deferred (regular IRA or tax-free [Roth IRA]), if the purchases were all cash with IRA funds. If the IRA borrows to finance the purchase, the portion financed may be subject to income and capital gains taxes. A discussion with a tax professional is highly recommended in these situations.
How can I take funds out of my IRA to buy real estate without paying taxes and penalties?
That’s simple. You don’t take funds out. You buy real estate just like you would buy a stock or mutual fund in your IRA. Buying real estate is just a purchase of a different type of investment. The mechanics of execution are also different because the completion of a real estate transaction takes place in many steps. This process may take 30 to 60 days to complete. Through Smartland, you will have access to professionals who will make the process simple.