Self-directed Roth 401(k) questions

Self-directed Roth 401(k) questions

Rental Property Investor · Knoxville, TN · Member since 2015 · 82 posts · 35 votes
I have a few questions about investing in real estate with a Roth 401(k): 1.) If at age 45 I buy a vacation rental, and at age 59.5 I want to start using it for family vacations, would I first need to distribute the property? And if I then needed to sell it, or I died a year later, how would the basis be determined? (I'm not in a common property state -- would it matter where the property is located? ) 2.) Would seller financing or seller carryback without a personal guarantee count as non recourse lending? 3.) If I max my Roth 401(k) contribution -- let's say I can put no more than $30k into it based on my income -- can I put an additional $5500 into a traditional IRA and roll it into the 401(k)? If so, how soon? 4.) Assuming I have a Roth 401k at etrade, where half my account is tied up in equities, and the other half in cash, can I move the cash portion into a new self-directed 401(k) to use for real estate? How does it work if you want to trade stocks and options as well as real estate and paper? 5.) If I'm a sole proprietor this year, but get smart and form a single member LLC next year for my self employed earned income, can I use the same 401(k), or will I need to start a new one? Thank you for your help!
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Solo 401k Expert · Anaheim Hills, CA · Member since 2012 · 18k+ posts · 6k+ votes
8y

David,

1) You (and any other "disqualified person") are not allowed to use property owned by your retirement account or receive any other benefit from the investment owned by your 401k. The only way to use it is to take "in-kind distribution", which means that you distribute the property out, not cash. You will have to get the property appraised at the time of distribution to determine it's value and the amount of distribution will be taxable event unless you are taking distribution from Roth and have met the requirements. 

2) Non-recourse lending means that the borrower does not provide personal guarantee for the loan, the underlying asset is the only security for the loan.

3) You can contribute into an IRA independently of your 401k contributions, assuming you are eligible based on your income.

4) If you set up truly self-directed Solo 401k plan you can invest into virtually anything except collectibles and any transactions involving disqualified person. Such plan is established with a 401k trust holding plan assets, it can own real estate, have a checking account, brokerage account, etc.

5) If the sponsoring business type changes you don't need a new Solo 401k plan, you can simply amend the existing plan to reflect the change of the plan sponsor.

Hope this helps!

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  • Solo 401k Expert · Anaheim Hills, CA · Member since 2012 · 18k+ posts · 6k+ votes
    8y

    David,

    1) You (and any other "disqualified person") are not allowed to use property owned by your retirement account or receive any other benefit from the investment owned by your 401k. The only way to use it is to take "in-kind distribution", which means that you distribute the property out, not cash. You will have to get the property appraised at the time of distribution to determine it's value and the amount of distribution will be taxable event unless you are taking distribution from Roth and have met the requirements. 

    2) Non-recourse lending means that the borrower does not provide personal guarantee for the loan, the underlying asset is the only security for the loan.

    3) You can contribute into an IRA independently of your 401k contributions, assuming you are eligible based on your income.

    4) If you set up truly self-directed Solo 401k plan you can invest into virtually anything except collectibles and any transactions involving disqualified person. Such plan is established with a 401k trust holding plan assets, it can own real estate, have a checking account, brokerage account, etc.

    5) If the sponsoring business type changes you don't need a new Solo 401k plan, you can simply amend the existing plan to reflect the change of the plan sponsor.

    Hope this helps!

  • Rental Property Investor · Knoxville, TN · Member since 2015 · 82 posts · 35 votes
    8y

    @Dmitriy Fomichenko - yes, you answered most of my questions. Thank you.

    So if I have a house in a Roth 401K that I want to start using personally, and I am at an eligible age for an in-kind distribution, the property would be appraised at the time of distribution. I would not pay any tax because it was held in a Roth account. But as far as future capital gains, the appraisal value would be my basis?

    It sounds like there would be nothing stopping me from maxing my 401k contribution, maxing my traditional IRA contribution, then rolling the IRA contribution directly into the 401k. Did I get that right?

    And if I go from sole proprietor to LLC taxed as sole proprietor to LLC taxed as S-Corp and swap out my SSN for a new FEIN along the way, no problem. Just fill out some paperwork.

    Instead of having two 401k accounts, one for equities trading and one for real estate, notes, etc., it sounds like to do what I want to do, I would move my  solo Roth 401k from my online brokerage to a truly self-directed Solo Roth 401K, and then have the new plan turn around and open an account at an online brokerage, possibly the same one I just left... but the new plan could also open another account for cryptocurrency... another for crowdfunding... it could buy and sell paper... flip houses or wholesale without UBIT or self-employment taxes... and I could buy when it's good to buy, and sell when it's good to sell, and not have to worry about capital gains, depreciation, 1031 exchanges, tax on interest, and so on... did I get that right?

    And if I live to the point that I don't want to deal with real estate anymore, I can liquidate everything and buy index funds. And if I don't need the income and don't want to take RMDs, I can roll my Roth 401k into a Roth IRA. And my heirs could spread their RMDs out over many years... and pay no tax.

    So... unless you need the income now, or you don't have the money built up yet in the Roth 401K to do deals... is there any reason at all why you wouldn't do every real estate deal in your Roth 401K?

  • Daniel DietzPro Member
    Rental Property Investor · Reedsburg, WI · Member since 2011 · 1k+ posts · 857 votes
    8y

    @David Morgan, it sound like your thinking is solid to me from a consumer side of things. I will let the Pros in the field chime in to confirm too. I would highly recommend using one of the Providers on here (I use @Dmitriy Fomichenko and have been very happy with his services) , they are not directly allowed to promote themselves on here, but just look at the signature lines and you can tell who they are. 

    As to why wouldn't you do ALL of your investing inside of a self directed retirement account there are several

    • You have maxed out your contribution limits to those accounts
    • You can generally use leverage at a much higher ratio outside of retirement accounts. with my properties I hold IN retirement accounts I need to put 40% down. OUTside of those accounts only 20% down. Which will give me a better LONG term return?
    • You can not actively do 'fix up' work inside of the accounts (IF that is what a person wants to do)
    • You want CURRENT income instead of waiting until retirement years.

    With all that said, I do hold quite a bit inside of retirement accounts (as do my partners). One of the primary reasons is that we ALREADY had a lot save up in regular retirement accounts (we are all around 50 years old). There is absolutely nothing wrong with doing it that way

    One other things to consider is that it is quite possible to make almost tax free income in many markets investing conventionally when the benefits of depreciation are applied and 1031 exchanges are used. 

    Dan Dietz

  • Rental Property Investor · Knoxville, TN · Member since 2015 · 82 posts · 35 votes
    8y

    @Daniel Dietz -- thank you, that's very helpful.

    From the reading I've done, my income level likely puts me in the sweet spot for after-tax 401k contributions as well as Roth 401k contributions. Does your plan with @Dmitriy Fomichenko provide for after-tax 401k contributions?

  • Daniel DietzPro Member
    Rental Property Investor · Reedsburg, WI · Member since 2011 · 1k+ posts · 857 votes
    8y

    @David Morgan I believe it does, but I have not used that feature yet. I *think* the way it works is that you make a 'pretax contribution' TO the plan, and then after it is in there you THEN convert it. I do know unfortunately that I can NOT roll over funds ALREADY in a ROTH :-(. That is about the only reason I also have a SDIRA account as you CAN roll ROTH funds into those. I will let @Dmitriy Fomichenko confirm or deny that I am phrasing this correctly :-)

    Dan Dietz

  • Rental Property Investor · Knoxville, TN · Member since 2015 · 82 posts · 35 votes
    8y

    @Daniel Dietz, yeah, the Roth IRA is a dead end as far as rolling it elsewhere. Great way to pass wealth to heirs, however, especially if you don't need to take distributions before your own dead end ;)

    I'm guessing I can find a local portfolio lender or private money for non-recourse loans with good terms if I look hard enough. Or just keep the seller's financing in place during a flip. I am extremely hands off, so I don't expect an issue with active involvement.

    Thanks again for your insight.

  • Bernard ReiszPro Member
    CPA delivering RE Tax Tools: 1031 Exchange, SDIRA, 401(k), Cost Seg · New York City, NY · Member since 2017 · 581 posts · 563 votes
    8y

    @David Morgan @Daniel Dietz

    The strategy to maximize Roth contributions to a 401(k) begins with after-tax contributions, which are then converted to Roth funds. Pre-tax amounts can be converted, but are limited to $18,000 (2017). After-tax voluntary contributions do not have that cap and can be made up to the overall plan limit of $54,000 (2017).

    Having a 401(k) can impact the tax deductibility of traditional IRA contributions.

  • Solo 401k Expert · Anaheim Hills, CA · Member since 2012 · 18k+ posts · 6k+ votes
    8y

    David, another consideration:

    If you own assets in your Roth 401k it doesn't make a lot of sense to pull that asset out as in-kind distribution. If you do so the income from that asset now becomes taxable income, whereas any income generated by the asset inside of Roth 401k can be pulled out as distribution tax-free. 

  • Rental Property Investor · Knoxville, TN · Member since 2015 · 82 posts · 35 votes
    8y
    I have a house under contract. The contract is assignable. Would assigning the contract to the 401k be a disqualified transaction? If not, how long does it take to set up a plan? Closing is Dec 21.
  • Solo 401k Expert · Anaheim Hills, CA · Member since 2012 · 18k+ posts · 6k+ votes
    8y

    David, this would be considered prohibited transaction. You can not assign a contract to your 401k, all transactions involving your 401k must be 'arms length'. 

  • Rental Property Investor · Knoxville, TN · Member since 2015 · 82 posts · 35 votes
    8y

    @Dmitriy Fomichenko Figured as much. 

    Thank you for your help.

  • Retirement Accounts Attorney · Southfield, MI · Member since 2017 · 3k+ posts · 1k+ votes
    8y

    @David Morgan

    With respect to contributing to both a 401k including a solo 401k and an IRA, the rules allow for it; however, participation in a solo 401k plan may affect the individual's ability to deduct a traditional IRA contribution; as a result, you may have to treat it as non-deductible IRA contribution. To learn more about this, see the following:

    https://www.irs.gov/retirement-plans/2017-ira-deduction-limits-effect-of-modified-agi-on-deduction-if-you-are-covered-by-a-retirement-plan-at-work

  • Flipper/Rehabber · Minneapolis, MN · Member since 2016 · 1k+ posts · 1k+ votes
    8y
    Originally posted by @David Morgan:

    @Daniel Dietz -- thank you, that's very helpful.

    From the reading I've done, my income level likely puts me in the sweet spot for after-tax 401k contributions as well as Roth 401k contributions. Does your plan with @Dmitriy Fomichenko provide for after-tax 401k contributions?

    What would you consider the sweet spot for after tax 401(k) contributions?  Most people who have the cash to max out their retirement funds are in a position where they would receive reasonable tax benefits for making pre-tax contributions...  After tax contributions are preferred when you are in lower tax rates.  Pre-tax contributions are generally better when you are in higher tax brackets...

  • Rental Property Investor · Knoxville, TN · Member since 2015 · 82 posts · 35 votes
    8y

    @John Woodrich --

    Self-employment income of $60K or thereabouts is what I had read was the sweet spot for after-tax contributions. Do you agree?

  • Flipper/Rehabber · Minneapolis, MN · Member since 2016 · 1k+ posts · 1k+ votes
    8y

    I wouldn't weigh the decision based on SE income, you would want to figure it out based on total income.  SE income is subject to SE taxes in addition to ordinary income taxes, because of this most people prefer to make pre-tax contributions to avoid ~12.2% SE tax...

    When you say SE I assume you are not talking about wages and that you are talking about earnings from self-employment....

    Most strategies around pretax and post tax contributions are based on expected tax rates.  If you are early in your career (or business), not paying a lot in taxes, it generally makes sense to contribute after tax dollars.  Further down the road if you are making more money, most people make pretax contributions because they are paying higher taxes now than when they retire.  At the end of the day you will want both buckets to pull from so you don't have to jump tax brackets if anything arises.

    If you are setting up your own retirement plan you may want to consider that you can't take a loan from an IRA but you can from a 401(k) if the plan allows for it. I would talk to one of the experts on here if you are serious about setting one up. I would talk to you CPA to make sure you are deciding correctly whether you should be making pre or post tax contributions. I have never heard of a sweet spot which is why I asked. Most people paying SE tax make pretax contributions to avoid the additional tax.

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