Real estate is the number one asset in self-directed IRAs. When you are able to choose the type of property you want to use to grow retirement income, you have many diverse options at your fingertips. Property assets can offer a solid hedge against the volatility of the stock market and investors also have the potential to earn gains from appreciation over time, which is why real estate is the number one asset in self-directed IRAs. But, there are rules for real estate IRAs you must understand to successfully invest in these assets.
As easy as real estate investing sounds, there are rules for real estate IRAs you need to know when using property as wealth-building assets in retirement plans. One mistake could cost you the tax-sheltered status of your account as well as causing heavy penalties and taxation. So, in order to protect your heard-earned retirement wealth—and your assets—below are a few of the most common mistakes you don’t want to make in your self-directed IRA.
Common Rules for Real Estate IRAs
The real estate is titled in the name of the IRA.
When you purchase real estate using retirement funds, it must be titled in the name of the account. Your IRA owns the property—you do not.
Avoid transactions with disqualified persons.
Your real estate IRA is unable to perform transactions with you, your spouse, or your lineal antecedents/decedents and their spouses (parents, children, etc.). Disqualified persons also include fiduciaries, and any corporation, partnership, trust, or estate in which disqualified persons have a 50 percent or greater interest.
Avoid prohibited transactions.
Dealing with disqualified persons is a prohibited transaction. Examples include vacationing in a rental property or living in a home owned by your IRA, and receiving any current benefit from assets in your account. Your IRA also cannot purchase property from or sell property to yourself. The assets in your account are meant to generate income for retirement; therefore, you may not enjoy any benefit until you retire and begin taking contributions from your IRA.
Understand that other disqualified persons cannot do anything you cannot personally do in terms of real estate in your IRA. So, your parents can’t vacation in IRA-owned property, and your IRA can’t buy property from them, etc., either.
Do not perform sweat equity.
You must hire third party contractors, etc., to perform any renovations on real estate in your IRA. Performing updates yourself is considered “sweat equity” and in essence, a contribution to your account and hard to specifically value. You’re entitled to the maximum annual contributions to your account, which you cannot exceed. Don’t let a bit of sweat equity ruin it for you.
Income must be deposited directly into the IRA.
All income from the investments in your account must flow straight in to your retirement plan.
Expenses must be paid with IRA funds.
You are not allowed to personally pay for expenses related to IRA-owned investments. All expenses are to be paid for with funds from your retirement account—so make sure you have enough capital in the account after investing to pay the bills.
Taxes may be owed if you leveraged the buy with a non-recourse loan.
If your IRA took out a non-recourse loan to help purchase property, the account is subject to unrelated business income tax (UBIT) on the debt-financed portion of the income the asset generates. All other income related to the portion of the investment grows in the IRA on a tax-sheltered basis.
Understand these are just a few rules and there are more. For a better understanding, refer to prohibited transactions and disqualified persons as defined by the IRS. It’s always a good idea to consult with your tax advisor to ensure you’re investing your retirement funds within these regulations.
If you want to learn more about real estate investing with your retirement funds, contact Advanta IRA. We don’t sell investments or give advice, but we can fully explain the benefits of self-directed plans that allow you to use alternative assets like real estate to grow income.
Here are a few additional articles about real estate IRAs you may find interesting:
If you have questions about rules for real estate IRAs and want to learn more about alternative investments in your self-directed IRA, call us at (800) 425-0653 or send us a message.