Buy out equity position of SDIRA via refi?

Question

Hi all,

I have a unique question on SDIRAs that I haven't yet found an answer to. Hypothetically, let's say that I make an all-cash offer on a property using 50% SDIRA funds and 50% cash. I do some work on the property and do a cash-out refi afterwards at 60% LTV. Would I be able to use the refi proceeds to essentially buy out the 50% ownership of the SDIRA, or would they have to be distributed between the SDIRA and the cash position pro rata? I'm wondering if I could continually reuse my SDIRA funds to help close in cash, then avoid UBIT post-refi due to the equity position being held 100% outside of retirement accounts. Thanks!

Dmitriy Fomichenko · Answer

@Ryan Bandaccari,

Greg is absolutely correct, all transactions involving your IRA must be "arms length" per IRS rules. Partnering with your IRA most likely will be considered a "prohibited transaction". You personally can't do any work on a property owned by your IRA. Financing of IRA-owned property must be non-recourse, and most lenders specializing in this won't touch it if there is non-IRA partner involved. You won't be "buy out" your IRA (direct prohibited transaction). If leverage is involved with IRA-owned property - you will not avoid UBIT.

You must take yourself out of the equation when investing your IRA if you wish to stay out of trouble. Either find a deal IRA can do on it's own, or have your IRA partner with non-disqualified person.

Greg Scott · Answer

That noise is the sound of an IRA imploding.

IRA investments must be arms-length transactions.

Brian Eastman · Answer

@Ryan Bandaccari

A lot of people who first learn about self-directed IRA plans immediately gravitate towards "how can I use this money?"  For an investment focused person, that is a logical line of thinking.

The catch is, IRA money is tax sheltered. It is not your money today.  It is money you are setting aside for your future self once you reach age 59 1/2.  In exchange for not personally using the money today and setting it aside for your future, an IRA receives tax-preferred status.

The cost of that tax-preferred status is that everything the IRA does has to be at arm's length and with no direct or indirect benefit between the IRA and a disqualified person.  That is a list that includes you, your spouse if married, lineal family, family owned business, and some other financially entangled people like plan fiduciaries or business partners.

So, the best question when thinking about a self-directed IRA is not, "how can I use this money?", but rather "how can I put my IRA to work in investments I understand that will protect and grow my savings better than leaving it in the stock market?"

There are a many great things you can direct your IRA into that will achieve that goal in the real estate realm.  The IRA can be a private lender, own a rental property on its own or in partnership with people not considered disqualified, be a limited partner in a syndication or fund, etc.  It all just has to be completely separate from personal finances.  You can "fund manage" your IRA, but that is as close as you can get.

If you really want to learn more, get on the phone with one of the few plan providers on this thread who specialize in this area.  You will learn more in 20 minutes on the phone with an expert than 20 hours poking around on the internet.

James Sebastian · Answer

Just wanted to reinforce one of Dmitriy's posts.  My SDIRA is partnered with a non-IRA LLC (he does the work so I can stay arm's length).  It was a real challenge to track down a lender to do non-recourse with the non-IRA partner involved.

Greg Scott · Answer

If you co-mingle your investments, the IRS can say your IRA ceases to exist and you get to pay taxes and penalties like you just took out all the monies.  That is NOT funny.

Think about it from the IRS perspective.  They don't want you to do anything that artificially increases the value of your IRA.  To use another example, let's say you bought a rent property 100% with your IRA but then fixed it up yourself or paid for materials with funds outside your IRA.  You have just moved the value of your labor and materials into the IRA.  To prevent  people from doing that, the IRS makes the penalty for doing so punitive.

The IRS wants to see something very clear cut.  I invested in Microsoft stock and I later sold Microsoft stock.  I invested in a syndication as a limited partner and the syndication sold its property.

Ryan Bandaccari · Answer

Appreciate the insight here, Dmitriy. The blog post is particularly helpful. I'll need to have a think on how to best use the resources in my IRA. Thanks!

Ryan Bandaccari · Answer

Haha I appreciate the comedic value of this. Is there any way to partner with my own SDIRA to close a deal? Assuming I keep the 50/50 split from the example in this post for all financing, income, and expense items over the life of the investment

Buy out equity position of SDIRA via refi?

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