Self directed IRA investing

[Kevin Gerace]

I have 30k that in a 401k, that I am going to transfer into a self directed IRA. Can I use this for a down payment on a flip and finance the rest of the purchase price with a conventional mortgage?

[Gil Hartman]

Hi Kevin, whenever an IRA is involved, financing needs to come in the form of a non-recourse loan, the IRA can't guarantee anything. So should you default on the mortgage, they can only go after the property itself, not the IRA.

[Jared Lopez]

There are several banks out there that do non-recourse loans to retirement plans. They would specially analyze the deal and set loan terms based on the specific investment. Because you can not personally guarantee the loan, the rates tend to be a little higher.

[Dmitriy Fomichenko]

@Kevin Gerace

you've got some good feedback from @Jared Lopez and @Gil Hartman about self directed IRA financing. But to answer your question, the only way you can access funds in your IRA and use them for a down-payment with conventional mortgage is by rolling over your 401k funds into self directed Solo 401k Plan, which has a loan provision allowing you to access up to $50K or 50% of your account balance tax free and penalty free, which in turn can be used as a down-payment or any other use you wish.

[Gil Hartman]

@Dmitriy Fomichenko right, assuming he has something to tie a solo 401K to.

[Rodney Walker]

@ Gil Hartman, can an entity form a checkbook self-directed IRA?

[Kevin Gerace]

Thank you all for your wisdom, I will continue to learn about self directed ira and 401k financing.

[Raymond B.]

@Rodney Walker,

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[Dmitriy Fomichenko]

Originally posted by @Rodney Walker:

@ Gil Hartman, can an entity form a checkbook self-directed IRA?

Rodney, IRA = Individual Retirement Account (regardless if it is conventional or self-directed) and is established in individual name, not in the name of the entity.

In order to establish Solo 401k, you need to have self-employment activity, which could be under entity or simply as sole-proprietorship.

[Rodney Walker]

@Raymond B.

Thanks!

[Rodney Walker]

@Raymond B. thanks! Now I think I got it. Also, thanks for answering my question Dmitriy.

[Gil Hartman]

Hi @Rodney Walker , you can do a "checkbook IRA". You would establish a single member LLC, in which your IRA is the sole member, and you are the non-member manager. These generally require some additional third party oversight.

Some companies will establish the LLC for you, but that can be cost prohibitive in some scenarios.

[Rodney Walker]

Thanks @Gil Hartman

[Mike McDermott]

Rodney,

If you do some research, you'll find that Solo or Independent 401Ks are far superior to IRAs. For the most part they escape Unrelated Business Income Tax (UBIT) whereas IRAs always incur it when borrowing money.

In the scenario you've described, it is unlikely that a bank that offers non-recourse loans (NRL) is going to lend you money on a fix and flip. The banks that do offer NRLs require the property to be income producing. So "Rentals - yes, Flips - no."

Keep in mind also that if your retirement plan acquires the house, you can do ABSOLUTELY no work yourself on the property. So to keep your numbers straight, you would need to have and borrow enough for acquisition and renovation using contracted labor.

Now for a real caveat. Fix and flips MAY escape UBIT and they MAY NOT. There are no hard and fast guidelines about this but the magic number seems to be three. If a plan does more than three flips, the IRS may consider your flipping a business rather than holding investments, and they MAY apply UBIT to you. The very worst case scenario is that they deem all flips as business and apply UBIT to everything. The best case scenario that I know of is upon five flips, they allowed three UBIT free, then applied UBIT to the other two. Since there are no codified rules it seems to be up to each individual IRS agent that looks at your file.

Regardless of whether you have to pay UBIT or not, if you flip a house in your 401K, I'll wager your returns will still kill those of mutual funds, CDs, or annuities.

So to sum up:

1. 401Ks escape UBIT when borrowing money. Returns are 30% - 50% greater than the same leveraged transaction in an IRA.

2. NRLs are not available through banks for fix and flips. You can get 3rd party private money or hard money for your project though.

3. A fix-n-flip may incur UBIT regardless of leverage. The magic number seems to be three, but there is no guarantee.

4. Even after incurring UBIT, a real estate transaction beats most other investment vehicles, especially Wall Street dreck, annuities and bank CDs.

Keep up the great work! Don't Occupy Wall Street, Escape Wall Street! Investing in Main Street creates good housing, jobs, and gives you control over your investments and your future.

[Jeff Ray]

@Jared Lopez 

- do you have the names of any banks that make the non recourse mortgages for a self directed IRA real estate deal?

Thanks.

[Dmitriy Fomichenko]

@Jeff Ray 

I would be glad to provide you with the list of non-recourse lenders we work with, sent me PM.

[Jason Brenizer]

@Mike McDermott said, "Keep in mind also that if your retirement plan acquires the house, you can do ABSOLUTELY no work yourself on the property. So to keep your numbers straight, you would need to have and borrow enough for acquisition and renovation using contracted labor."

This is extremely important. The IRS considers the work you do sweat equity. It's as if you personally put money into the deal along side the entity that is your self directed IRA. And that is not allowed.

There are a number of forbidden transactions (the what), mostly related to disqualified people (the who) in a self directed IRA (SD-IRA for short). Here are few examples:

1. If your SD-IRA buys and holds a property, you cannot act as the property manager, nor can a property management company manage it if you own 50% or more of that company.

2. If your SD-IRA buys a property - whether to hold and rent or to fix and flip - you cannot sell it to yourself, your spouse, or any of your ascendants (parents, grandparents) or descendants (your children, your grandchildren). And if I remember correctly, you cannot lease the property to any of those disqualified people either.

Those are just some of the restrictions, but I think SD-IRAs are amazing vehicles for investing outside the stock market, especially real estate. Good luck.

[Shadonna N.]

The banks I contacted for non-recourse loans require 30%. Are there any banks that require less (20%)? Is it possible to provide the fund the entire down payment with private lending? Thinking to use part of the rental income to pay down the private money loan. Can I rollover additional funds into my self directed IRA from my IRA if additional funds are needed.

[Dmitriy Fomichenko]

@Shadonna N. 

Most non-recourse lenders will want 30+% down payment. I don't know of any bank who will provide non-recourse loan with less than 20% down. The reasons is that with non-recourse loan risk for the lender is higher. You may however find some private lenders with more flexible terms.

I don't understand your question "Is it possible to provide the fund the entire down payment with private lending? Thinking to use part of the rental income to pay down the private money loan." Please explain what you mean here. 

You can always add more funds to your SD IRA by means of contribution or rollover/transfer from another qualified retirement plan.

[Shadonna N.]

@Dmitriy Fomichenko

Let's say I purchase a property within the self directed IRA and the purchase price is $500K. I decide to finance it with a non-recourse loan and the down payment is $150K. Can I use private money for all or part of the $150K?

[Dmitriy Fomichenko]

@Shadonna N. 

"Private money" is still a loan. Not from the bank but from private party, but it is still a loan. In the example you described $150K is not a down-payment. Down-payment is the cash that you have in your IRA and use it to put down on a property.

Most non-recourse lenders will want you to have 30% of the purchase price cash in your IRA for down-payment plus additional funds for reserves. I don't think there is a lender who will provide 100% non-recourse financing (even if it is split into two loans).

[Shadonna N.]

@Dmitriy Fomichenko

Thank you for the information. I was also told it was possible to purchase a property with private money for the IRA and refinance with a non-recourse lender. Based on everything stated I don't think that is possible.