SDIRA lending and borrowing.

[Jerry Chilimidos]

Hello all, I have a SDIRA with some cash, 2 paid off properties and a stock portfolio in the SDIRAs name.  I was thinking about leveraging those assets as collateral and doing some hard money lending.  Is that a thing?  I have done hard money lending using my own money which has worked out well.  Has anyone else done that and also what lenders did you use.  Thank you in advance for your help. 

JC

[Ned Carey]

@Jerry Chilimidos I am not a CPA owever my understanding is any loans to your IRA can not be personally guaranteed. Also there is an additional tax on the returns due to the financing.

From an internet search
"Unrelated Debt-Financed Income (UDFI) is a tax that applies to an IRA when it uses debt"

[Dmitriy Fomichenko]

@Jerry Chilimidos,

Ned is correct, if you end up refinancing your rentals in the IRA - your IRA will be subject to UBIT tax on leveraged portion of the income so be sure to run the numbers with you CPA to understand the tax implications.

Private lending from an IRA is a thing! Private lending using retirement funds is my personal favorite (I've done a few dozen loans like this) for the following reasons: passive, low risk, and high returns. If you do your due diligence before you invest, it is almost impossible to lose money. I've done a couple of direct loans, but for the most part, I work with a mortgage broker who brings deals to me. Feel free to PM me if you want an introduction.

[Jerry Chilimidos]

[Ned Carey]

@Jerry Chilimidos

@Dmitriy Fomichenko Is an expert in this field. He called it UBIT. Which is a tax when you do an active business in your IRA but it is essentially the same thing.

[Dmitriy Fomichenko]

Here is some clarification:

When property inside of an IRA is financed, it generates UDFI (Unrelated Debt-Financed Income), the income derived from the leveraged portion of the property.

UDFI is subject to UBIT (Unrelated Business Income Tax). 

This tax is assessed on business income inside of tax-exempt entities or organizations (IRA falls into this category). An example would be owning a franchise. As explained above, income from the financed portion of the property in an IRA would be taxed as well, but you can deduct related expenses, including depreciation, to minimize this tax liability; that is why I recommend a discussion with a tax expert to understand what your numbers would look like.

Hope this helps!  

[Jerry Chilimidos]

@Dmitriy Fomichenko

Interesting.  I looked up the tax.  Seems like 21% or more as a ball park!

I guess the different strategies FOR ME would be.

A- Find a lender that would actually do the refi and pay the tax.

B- Sell a property and use those funds to lend as they would go back to the IRA.

C- Sell stock within the IRA to lend out and pay back.

D- Portion the cash in the IRA with other owners cash or partner with someone and apportion it back to the IRA when the deal is complete.

All this is obviously hinged on a flawless transaction. 
 

[Dmitriy Fomichenko]

@Jerry Chilimidos,

Here is a list of lenders who specialize in lending to IRAs and 401Ks:

https://www.biggerpockets.com/member-blogs/2810/50272-list-o...

I don't know where your rentals are located and how they are performing but selling might be an option vs doing cash-out refi.

I would certainly consider option C. You have zero control over the stock market, whereas when you do private lending, you have significantly higher control and contractually guaranteed return on your money. And as I explained earlier, your investment is protected by real property, so your risk is extremely low. 

Option D: you are considered a "disqualified person" to your IRA and as such are prohibited from engaging in any transaction in an IRA or receiving any benefits from the IRA (directly or indirectly), therefore I strongly suggest you avoid this option if you wish to stay out of trouble.

[Dmitriy Fomichenko]

@Jerry Chilimidos, 

I see that you are self-employed. As such, you qualified for a truly self-directed Solo 401k plan (as long as you don't have any employees working for you). This retirement plan have several advantages of SD IRA and one of them is being exempt from UBIT tax on leveraged real estate. So if you move your IRA assets to 401k, including both rentals - you can finance them in the 401k and be exempt from UBIT. Something to consider!

[Ned Carey]

@Dmitriy Fomichenko Wow a solo 401k is not subject to UBIT. That is a game changer. 

Is an IRA subject to capital gains tax? How about depreciation recapture? Is this a loophole; use depreciation to offset UBIT but when selling there is no tax on the gain because it is an IRA?

[Dmitriy Fomichenko]

@Ned Carey,

A solo 401k is not subject to UBIT on leveraged real estate only. However, if the 401k has business income, it will be subject to UBIT.

An IRA is not subject to capital gain taxes because it is a tax-deferred retirement plan. However, if the property is sold while financed (there is a loan on it), a portion of the gains will be subject to UBIT.

Taxes is not my area of expertise so I suggest readers consult with their own tax advisor on this subject. 

[Jerry Chilimidos]

Interesting. I am self employed but have 6 employees so i went the SEP IRA route to defer some of the income tax. If you make decent income the deferred income can be substancial but you have to do something with those funds; As a part time real estate investor that's where the SDIRA comes in handy. I was just looking to turbo charge that a bit because as we know property values have gone up and buy and hold in a SDIRA just moves to slow even if you can max your SEP. Thank you all for your input.

[Dan Mcguire]

Yes, UBIT applies. Additionally, a pro-rated portion of tax is due if you sell with debt

Or dent is on the priority for the year prior.

[Ashish Acharya]

@Jerry Chilimidos Yes, you can use your SDIRA for hard money lending, with income going back into your SDIRA tax-deferred or tax-free (unless the activity rises to trade or business, then you might be exposed to UBTI). Just avoid self-dealing and follow IRS rules. If borrowing, use a non-recourse loan since personal guarantees aren't allowed. Work with a knowledgeable SDIRA custodian to ensure compliance with regulation.

This post does not create a CPA-Client relationship. The information contained in this post is not to be relied upon. Readers should seek professional advice.