Lessons from the Pros

Real Estate

Real Estate Investments Inside a Self Directed Retirement Plan (SDRP)

The last time I researched it there was over $4.5 trillion dollars in the retirement market today.  7 Billion of that was self-directed.  It is also  among the fastest growing segments.  A SDRP allows access to a variety of investment vehicles, not just equities.  The IRS closely regulates Self-Directed plans; therefore real estate investments purchased and held in those plans must be handled properly.  People who invest in real estate through a self-directed plan must make sure they adhere to the IRS rules and use a custodial firm.

Here’s an example of how it works: Jake Astor decides to use his SDRP to purchase a dilapidated single family house in Ferndale, MI for $32,000 in cash.  He uses another $15,000 from the retirement account to go towards renovation and fix up.  From his research, he knows the property will rent for $950 a month and that money goes straight into his retirement account.  I asked Jake what makes this such an attractive investment. He responded by saying, “The rental income goes into my IRA which is tax deferred income and at a great rate of return.  Then, once I sell the property, the profit also goes directly into my IRA without capital gains.  For example, I  hold the property. In 5 to 7 years, it will probably be worth double. That is a sizable profit.  The Self-Directed IRA is a terrific long-term investment tool.”

Here is a four step action plan to create your SDRP and invest it in real estate.

  1. Find a custodian that you feel comfortable with, and that has a good reputation. Determine what SDRP is best for you and complete the adoption agreement.
  2. Fund your new SDRP by either the allowable amount of contribution or by rolling over an existing plan.  You can either do a direct rollover, which moves funds from an existing retirement plan directly into your new SDRP. This means you never take possession of the funds and no taxes will be withheld.  Or you can elect a 60 Day Rollover which allows you to take possession of the funds, but the funds must be placed in a new SDRP within 60 days or they become a taxable distribution.
  3. Identify a real estate investment for your SDRP.
  4. Complete a “buy direction letter” for the investment.

Here are some of the most frequently asked questions that arise when people are considering real estate as an investment in their SDRP.

What are the differences between buying real estate for as an individual and purchasing real estate in my SDRP?

  • Title –when purchasing an asset for your SDRP, it must be properly titled to your plan for example “Equity Trust Company Custodian for the benefit of (your name) IRA.”
  • Funding – when purchasing an investment (or any portion of an investment) for your SDRP, the funds must come directly from your plan.  They will be sent by your custodian directly to the Title Company /closing agent or attorney per your instructions.
  • Expenses and income – any expenses associated with your SDRP investments must be paid for out of the plan and any income must be paid into the plan.
  • Signatures – documents pertaining to your SDRP investments must be signed by the custodian on behalf of your plan.

Can my SDRP purchase real estate I currently own?

No.  This is considered a prohibited transaction (see IRC 4975).  You may not purchase property or an interest in property that is currently owned by a disqualified person (this includes you and family members of lineal descent).

If you are interested in using this investment strategy, here at OTA Real Estate we have courses that can help you be successful and OTA Tax Pros can help with the creation of your SDRP.

Great Fortune,

Diana Hill

DISCLAIMER This newsletter is written for educational purposes only. By no means do any of its contents recommend, advocate or urge the buying, selling or holding of any financial instrument whatsoever. Trading and Investing involves high levels of risk. The author expresses personal opinions and will not assume any responsibility whatsoever for the actions of the reader. The author may or may not have positions in Financial Instruments discussed in this newsletter. Future results can be dramatically different from the opinions expressed herein. Past performance does not guarantee future results. Reprints allowed for private reading only, for all else, please obtain permission.