Can I finance a property in my self directed IRA?

[Stephanie Gothart]

I want to convert my husband's Roth IRA to a self directed Roth IRA to buy properties with. He doesn't have quite enough to purchase a house yet. Is it possible to finance a property in a self directed IRA?

[Greg Scott]

Yes, but you will be subject to UBIT taxes. Also, it is key that you do not manage or work yourself on that property or you could cause the IRA to blow up.

[Dmitriy Fomichenko]

@Stephanie Gothart,

It is possible to finance investment property in an IRA, however IRS rules prohibit you (or your husband) to personally guarantee the loan, therefore you must use non-recourse financing. Here is a list of lenders specializing in these kinds of loans:

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

[Michael Plaks]

@Stephanie Gothart

Minor technical correction: you cannot convert your husband's IRA into anything, only he can. :)

Also, this is not a "conversion" - you only need to move the funds to a custodian who allows using their funds as self-directed.

[Rebecca Parker]

Another option if you both have self-directed IRAs is partnering them together. One of the great features of self-directed IRAs is that they don't have to be used only on their own. Partnering is when one entity (or more) and an IRA come together to put up the funds for an investment. In this strategy, all parties have a vested percentage of ownership in the deal. When doing this, the percentage of ownership is decided at the beginning of the investment and must remain the same throughout the life of the investment. Any profit the investment receives is returned based on this percentage of ownership, and the IRA would be responsible for its percentage of any expense associated with the investment, too.

[Stephanie Gothart]

Quote from @Greg Scott:

Yes, but you will be subject to UBIT taxes. Also, it is key that you do not manage or work yourself on that property or you could cause the IRA to blow up.

We have a construction company but outsource to our subcontractors. Would that be allowed as long as we are not personally working on the house? Also by saying not managing the property do you mean if we rent it out? So I would need to outsource the property management to someone else? Do you happen to have a resource where I can find out more information on this topic? When I google it I don't seem to come up with much and a lot of people, even my tax person, don't know much about self directed IRAs. Thanks!

[Stephanie Gothart]

Quote from @Rebecca Parker:

Another option if you both have self-directed IRAs is partnering them together. One of the great features of self-directed IRAs is that they don't have to be used only on their own. Partnering is when one entity (or more) and an IRA come together to put up the funds for an investment. In this strategy, all parties have a vested percentage of ownership in the deal. When doing this, the percentage of ownership is decided at the beginning of the investment and must remain the same throughout the life of the investment. Any profit the investment receives is returned based on this percentage of ownership, and the IRA would be responsible for its percentage of any expense associated with the investment, too.

 Am I allowed to partner with my husband on this since we are married? I thought that wouldn't be allowed?

[Dmitriy Fomichenko]

Quote from @Stephanie Gothart:

Quote from @Greg Scott:

Yes, but you will be subject to UBIT taxes. Also, it is key that you do not manage or work yourself on that property or you could cause the IRA to blow up.

We have a construction company but outsource to our subcontractors. Would that be allowed as long as we are not personally working on the house? Also by saying not managing the property do you mean if we rent it out? So I would need to outsource the property management to someone else? Do you happen to have a resource where I can find out more information on this topic? When I google it I don't seem to come up with much and a lot of people, even my tax person, don't know much about self directed IRAs. Thanks!

Your construction company is an extension of you and you both are "disqualified persons" to your husband's IRA. Your construction company can not engage in a transaction with the IRA. 

As far as managing the property: IRS rules prohibit any disqualified person to provide services to qualified plan. While you are not required to have a property manager for your long-term rental (short term is a different story), you can only handle administrative functions such as making phone calls, paying bills, selecting a contractor, etc. and must be completely hands off. 

[Rebecca Parker]

Yes, you can be married and partner with your spouse. This article goes into more depth about the topic: Maximize Your Investments Funds With Partnering - Quest Trust . This is an excerpt from the article, "Keep in mind that when partnering with a disqualified person, the percentage of ownership is decided at the time of purchase and must remain the same throughout the life of the investment." So, whatever the percentage of ownership is going into the investment, you have to keep throughout the investment. Any expenses and income are also based on the percentage of ownership and cannot change during the life of the investment. 

[Greg Scott]

Quote from @Stephanie Gothart:When I google it I don't seem to come up with much and a lot of people, even my tax person, don't know much about self directed IRAs. Thanks!

Stephanie:

Let's give two extreme examples:

1) A person buys a mutual fund in their IRA. The IRS loves this because it is an arms-length transaction so there is no way for the mutual fund buyer to somehow manipulate the value of the mutual fund.

2) A person creates a company inside his SDIRA. He then provides free labor to that company to increase profits. The IRS would call this a Prohibited Transaction because this person is illegally moving profits into the tax-deferred IRA. To prevent this, the IRS penalties are VERY severe.

Lesson:  Any direct involvement in the day-to-day management of the investment puts you at risk.

Read more here: https://www.iraresources.com/blog/prohibited-transactions-an...

[Alecia Loveless]

@Stephanie Gothart There are some good YouTube videos on this.

The way I understand this is that technically you can manage the property but you can’t be paid to do so. Obviously if it was more than like an 8 unit building it might be best to hire a management company.

The videos I watched said that you can finance the property but it’s not the same as a traditional mortgage it’s kind of reverse and with a SDIRA property you need to put down like 50-80% and finance the rest because they’re most concerned with a large cash flow being generated to grow your investment and also to be there in case there’s any major repairs because those also have to come out of the account, you just can’t pay for a new roof for it out of pocket it has to come out of the SDIRA account.

But the best part is if you buy a house for $100,000 and in 5 years it’s worth $300,000 and you sell it, your $200,000 profit is all tax free because it’s in your tax free account.

[Dmitriy Fomichenko]

Quote from @Alecia Loveless:

@Stephanie Gothart There are some good YouTube videos on this.

The way I understand this is that technically you can manage the property but you can’t be paid to do so. Obviously if it was more than like an 8 unit building it might be best to hire a management company.

Managing 8 or even 4-unit building will be considered providing a service, which is prohibited by the IRS rules, regardless if you paid for the service (which would be second violation of the IRS rules) or not. 

[Mitch Roye]

Quote from @Dmitriy Fomichenko:

@Stephanie Gothart,

It is possible to finance investment property in an IRA, however IRS rules prohibit you (or your husband) to personally guarantee the loan, therefore you must use non-recourse financing. Here is a list of lenders specializing in these kinds of loans:

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

What if the self directed Roth IRA purchases a property "Subject To" the Seller's existing mortgage? Technically, the loan is in the seller's name and us as buyer are simply making payments with no personal guarantee?

[Dmitriy Fomichenko]

@Mitch Roye, 

Sure, you can do that; no problems with such a scenario. 

[Mitch Roye]

Thank you, appreciate you!

[Michael Plaks]

Quote from @Mitch Roye:

What if the self directed Roth IRA purchases a property "Subject To" the Seller's existing mortgage? Technically, the loan is in the seller's name and us as buyer are simply making payments with no personal guarantee?

Beware that your SDIRA may be subject to UDFI tax in this case, because it will have debt-financed income. Search this forum or google UDFI if you're not familiar with it.

[Mitch Roye]

Quote from @Michael Plaks:

Quote from @Mitch Roye:

What if the self directed Roth IRA purchases a property "Subject To" the Seller's existing mortgage? Technically, the loan is in the seller's name and us as buyer are simply making payments with no personal guarantee?

Beware that your SDIRA may be subject to UDFI tax in this case, because it will have debt-financed income. Search this forum or google UDFI if you're not familiar with it.

Thanks!  Great point!  Question -- Even if the loans are still in the seller's name and I'm just writing checks to the bank each month that would still be be liable for UDFI tax?  

[Michael Plaks]

Quote from @Mitch Roye:

Quote from @Michael Plaks:

Quote from @Mitch Roye:

What if the self directed Roth IRA purchases a property "Subject To" the Seller's existing mortgage? Technically, the loan is in the seller's name and us as buyer are simply making payments with no personal guarantee?

Beware that your SDIRA may be subject to UDFI tax in this case, because it will have debt-financed income. Search this forum or google UDFI if you're not familiar with it.

Thanks!  Great point!  Question -- Even if the loans are still in the seller's name and I'm just writing checks to the bank each month that would still be be liable for UDFI tax?  

Yes, if you follow the rules. Your SDIRA assumes legal responsibility for the loan. And it would be your SDIRA issuing checks, not you.

[Mitch Roye]

Quote from @Michael Plaks:

Quote from @Mitch Roye:

Quote from @Michael Plaks:

Quote from @Mitch Roye:

What if the self directed Roth IRA purchases a property "Subject To" the Seller's existing mortgage? Technically, the loan is in the seller's name and us as buyer are simply making payments with no personal guarantee?

Beware that your SDIRA may be subject to UDFI tax in this case, because it will have debt-financed income. Search this forum or google UDFI if you're not familiar with it.

Thanks!  Great point!  Question -- Even if the loans are still in the seller's name and I'm just writing checks to the bank each month that would still be be liable for UDFI tax?  

Yes, if you follow the rules. Your SDIRA assumes legal responsibility for the loan. And it would be your SDIRA issuing checks, not you.

Thank you!