Using a Solo 401(k) to protect real estate profits

Jeff Takle · 2008-08-03T11:03:10-07:00

Would be interested to hear if anyone has more/better/different information on this issue: I just set up an Individual 401(k) for my consulting company, which is a single-member LLC. I'm wondering if this might also apply for short-term real estate investment company. As an employee, I can put up to $15,000 of salary deferral into the 401(k). As the employer (the LLC), I can contribute profit sharing equivalent up to 25% of the employee salary, up to a total employee/employer contribution of $42,000 this year. So... If consulting brings in $100,000 this year e.g., I can contribute $15,000 of my salary and my company can contribute another $27,000 for a total of $42,000. My taxable income is reduced from $100,000 to $58,000 for a tax savings of around $10,000 in the current year. Not bad, but I'm also short all that cash because it's sitting in my 401(k) waiting for old age. Here's where real estate comes in... Law allows (though AIG and T.Rowe Price 401k plans do not) that you can invest that 401k (or an IRA) money into real estate. Also, the gains from that real estate are exempt as I understand it from cap gains tax and all cap gains get rolled back into the 401k and can be used without 1031 time restrictions to invest in more real estate. The only taxes you would pay would be on 401k distributions, which you can delay until I think 70.5 years old and can stretch out a long time. End result? Could be a great way to take ordinary income tax free, flip rental property without capital gains penalties, and end up with a few income-producing properties fueling your 401(k). Ahhh, there's the catch--you can't get your money out. Any thoughts?

Jason Barnett

Dayton, OH · Member since 2008 · 517 posts · 17 votes

20y

*note: 401k means any type of individual retirement account, e.g. 401k, IRA, Roth IRA, etc.

I posted on this idea a while back. Yes, it is 100% legal to do what you are suggesting and you have already hit on the major points. There are several trustees that will allow your 401k to invest in real estate directly and/or invest those funds into a private company that manages / owns real estate. Just google "Real estate IRA" and you will find some trustees that allow you to do this.

If you decide to do this then there are several important points to remember:

1. You cannot receive any current benefit from your 401k, this includes salaries or fringe benefits
2. Some (most?) trustees will not allow you to have direct access to those IRA funds. So if your 401k buys a rental property then you will need to have the trustee write a check for every single maintenance item that comes up. Kind of like a construction loan, eh?
3. Your mom, dad, son, daughter, or any other ascendent or descendent cannot receive any current benefit from your 401k, this includes salaries or fringe benefits
4. Did I mention you cannot receive any current benefit from your 401k, this includes salaries or fringe benefits?

You can find out more information about this topic here:
http://www.entrustadmin.com/iraplus/faq.sqrl

Basically though, if you and some personal friends wanted to buy properties... I don't see any reason why you can't pay one of your personal friends for their management duties. And while we're at it, how about you go and manage some properties for your personal friends? :mrgreen:

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Jeff Takle

OP

Real Estate Consultant · Somerville, MA · Member since 2008 · 339 posts · 52 votes

20y

Thanks, good info. Looks like this is, at a minimum, a good additional source of revenue should a deal present itself; likely would be a bit slower moving though. Would take more research to know if you could invest part IRA money in with your non-IRA money in a property as a partnership / TIC...one part Trustee investment, one part Me the Individual investment...hmm, probably no reason to make this hypothetical any more complicated than it already is.

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Bryan Casteel

Real Estate Agent · Cincinnati, OH · Member since 2008 · 216 posts · 11 votes

20y

The pioneer in self-directed retirement accounts is Equity Trust Company. I have my IRA with them that I invest in real estate with. There are some strict rules around how to do these deals, but the results can be awesome.

Their website (http://www.trustetc.com) is full of great information - you should check it out. Here are some of the options for investing your retirement accounts:

* Real Estate - including apartments, single family homes, and duplexes
* Commercial property, developed or undeveloped land
* Mortgages/Deeds of Trust
* Publicly traded stocks, bonds, mutual funds
* Private Limited Partnerships
* Private Stock Offerings, Private Placements
* Private Limited Liability Companies
* Secured and Unsecured Notes
* Judgments/Structured Settlements
* Tax Sale Certificates
* Car Paper
* Factoring
* Accounts Receivable
* Commercial Paper
* Equipment Leasing

You can also set up Self Directed Coverdell Education Savings Accounts for child education expenses and Self Directed Health Savings Accounts for health care expenses.

What if you had a child who was 5 years old and you opened a Coverdell account for them with $500. Every year you wholesale flip a property from that account for $5000 profit. By the time they go to college at 18, they would have over $70K in that account for college expenses. And all you put in was $500 and a little work every year!!!

What if you are self employed and have a high-deductable health insurance policy. You could fund your HSA with a couple grand and then flip a house. You do this once a year and you will never have to pay for medical expenses again!

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NA Collins

Bakersfield, CA · Member since 2008 · 25 posts · 0 votes

19y

I recently opened a Roth IRA with Equity Trust Company. Since I'm only starting with $8000 for 06 & 07, what's the best way to grow this account? My wife also opened an account so I understand we can partner up. Where can I found out how to grow this account without attending the seminar and spending $1500. Thanks

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Jimmy H.

Lexington, KY · Member since 2010 · 315 posts · 133 votes

16y

Jason,

It is my understanding that the OP was focusing on solo 401k's and not self directed IRA's.

The significant difference is that with a Solo 401(k), the participant can actually be the trustee and handle the investment transactions themselves. This can serve to simplify operating the plan because no third party is introduced. Such simplification can also serve to minimize third party fees.

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Kevin AmolschBusiness Member

Real Estate Lender · Wheat Ridge, CO · Member since 2009 · 113 posts · 59 votes

16y

If that is true would you consider yourself having a higher risk of violating an IRS regulation and getting a tax penalty? Seems like it might be worth the hassle to have a trustee or custodian who keeps up with rule changes looking over your shoulder.

I guess it depends on your understanding and comfort level with what is and is not allowed.

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Bryan Hancock

Investor · Round Rock, TX · Member since 2010 · 8k+ posts · 4k+ votes

14y

I wanted to bump this thread this evening. There is some great information in it for those looking at solo Ks.

For those with an s-corp and a LLC did you set up the solo K for both entities? Are there any gotchas for using the solo K from the flip/operations s-corp to invest in debt reduction or additional deals owned by the LLC that is the holding entity?

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J ScottPro Member

Moderator

Investor · Sarasota, FL · Member since 2008 · 17k+ posts · 17k+ votes

14y

Originally posted by Bryan Hancock:

For those with an s-corp and a LLC did you set up the solo K for both entities? Are there any gotchas for using the solo K from the flip/operations s-corp to invest in debt reduction or additional deals owned by the LLC that is the holding entity?

I'm certainly no expert on retirement plans and their legal implications, but it sounds like in this case, your retirement plan would be directly benefiting you as interest-holder in your business (since it's reducing the business' debt), which would violate the basic tenet that there can't be any benefit derived by/from the plan.

Again though, I'm not an expert, so it's quite possible I'm missing something...

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Bryan Hancock

Investor · Round Rock, TX · Member since 2010 · 8k+ posts · 4k+ votes

14y

Hmm...Wouldn't I be benefiting if I purchased new properties and eventually took distributions from that holding business? What is the rule on "benefiting"? I thought this had to do with directly receiving the dollars.

How would debt reduction differ from purchasing new assets? Would all of the money have to stay in my other company if I used the solo K to invest in new property or debt reduction owned by the holding company?

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Dennis Tierney

Investor · Omaha, NE · Member since 2011 · 475 posts · 211 votes

14y

Jeff:
I have a SDIRA through which I own 3 apartments and it is easy to do as long as you carefully follow the IRS restrictions. You have to be choosey which custodian you use as some are more "sticky fingered" than others in how much freedom you have for checkbook control. The one I have set up through Guiadantfinancial.com I have complete checkbook control and wouldn't go any other way.
Dennis

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Using a Solo 401(k) to protect real estate profits

Using a Solo 401(k) to protect real estate profits

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