How To Purchase Real Estate with a Self Directed IRA

Posted on: October 19, 2020   |   Category: How To
Real Estate Small House and Key in Investor's Hand

Real estate continues to be a popular topic. From house flipping television shows to your friend renting out an apartment, and on to a young couple moving into a house next door. This prevalence has led to real estate becoming one of the most popular alternative investments. Are you looking to get in on the action? Let’s explore how to purchase real estate with a Self Directed IRA.  

Can I invest in real estate with an IRA?

Yes! Most IRA accountholders assume that an IRA can only invest in the usual suspects of stocks, bonds, and mutual funds. The reason for this is that these assets are the only options available to them at brokerages. However, with a Self Directed IRA accountholders can invest in a variety of alternative assets including real estate, private placements, tax liens, and cryptocurrencies.  

Are there any special rules?

Yes! It’s important to always think of your IRA and personal funds as two separate entities. Technically, the IRA owns the property and you, as the account holder, are the manager. Think of it as if your IRA is a company, e.g. Amazon. When you invest in Amazon, Jeff Bezos is responsible for all cash flow decisions. With a Self Directed IRA, you are the manager who is responsible for all decisions and transactions. However, you cannot receive material benefit from your IRA asset, nor add to it with personal funds. Violating this would be called a Prohibited Transaction. The good news is that once you get the rule down, it’s really easy to invest with compliance. 

Benefits of Investing in Real Estate with a Self Directed IRA

  • Diversification – Each asset reacts differently to the same event. Therefore, to minimize risk investors should purchase a variety of assets. This does not prevent loss nor promise gains, but can aid in accomplishing long-term financial goals.   
  • Steady Income – Unlike the volatile stock market that fluctuates quite often and has the ability to crash, real estate usually retains its value. Also, property value does not fluctuate as much as stock prices.   
  • Tangible – Real Estate is a tangible asset that can never lose all of its value, unlike stocks. Even if the real estate market value were to decrease, you will still have the physical property that can be sold. 
  • Deferred Taxes – As with any traditional IRA investment, profit generated is tax-deferred until you take a withdrawal. If it’s a Roth IRA, profits accumulate tax-free. Active real estate investors may buy, sell, or flip properties while maintaining the tax-deferral status of the IRA. 

Real Estate Investing is not for everyone

Although there are several benefits of investing in real estate, it is not the right asset for everyone. It is important to do your due diligence and speak to a financial professional to see if this investment option is right for you. Investors should be familiar with the Self Directed IRA rules and have enough funds in their account to purchase the property and pay all other expenses. (And don’t forget that IRAs have a contribution limit each year!)

How To Invest in Real Estate with a Self Directed IRA

After performing due diligence and deciding to invest, a quick process must be completed to make your investment. Let’s use an example of Jonah, who is interested in using his Roth IRA funds to buy a real estate property.  

step 1: Create a self directed ira

Jonah has been researching and speaking to his financial advisor about the advantages/disadvantages of owning real estate in a Self Directed IRA. He reads about prohibited transactions to make sure he is following the IRS’s rules. After conducting research, he decides to open a Self Directed Roth IRA at a custodian who is willing to answer all of his questions and is knowledgeable about the real estate investing process.

step 2: Transfer funds into the self directed ira

Since Jonah already has a Roth IRA, he is able to transfer the desired amount of funds into his new Self Directed Roth IRA.  

step 3: Establish an IRA llc, if applicable

Jonah is aware that a Self Directed IRA must be held by a custodian, but recognizes the option to have checkbook control by opening a Self Directed IRA LLC. He chooses the checkbook control model because he wants to be able to handle all cash flow transactions in real-time, without having to contact his custodian first. This saves him both time and money.  

Jonah creates a Self Directed IRA LLC checking account at his local bank and his custodian moves his funds there. 

step 4: invest in the property of your choice

Jonah purchases a property in a beautiful location that fits his budget. He has enough funds in his Self Directed IRA to purchase 100% of the investment, making him the sole owner of the property and the manager of all IRA transactions.   

Ongoing Maintenance

All rental income and expenses are paid for through the IRA checking account. The rental checks keep coming in and Jonah’s retirement account continues to grow. Since he has a Roth IRA, the profit earned is tax-free. Jonah is happy with his investment and is thinking about purchasing a second property in the near future.   

Key Takeaways for Using a Self Directed IRA to Invest in Real Estate

Using a Self Directed IRA to purchase real estate is a great way to diversify your portfolio and have protection against economic fluctuations, all within a tax-advantaged retirement account. However, before creating an account and investing, be sure to conduct due diligence and discuss with a financial professional if this investment is right for you. You may also speak to a Self Directed IRA Specialist about any questions involving the investment process.