When a Self Directed IRA Goes Small

Posted on: October 25, 2021   |   Category: Real Estate
Self-Directed IRA, single-family

When a Self Directed IRA account holder starts researching rental properties, multifamily homes are always at the top of the list. These can provide numerous rental incomes while consolidating management into one small convenient area. However, multifamily homes come with their own challenges. Neighbors often don’t get along, and with multiple units, it seems as if somebody is always having an issue. Luckily for Self Directed IRA investors, a new trend is being seen: single-family rentals.  

Of course, this sounds like the classic Self Directed IRA trend. Get a deal on a new home, do a little light rehab, and then rent it out. In many ways, you’d be right. Fundamentally the property is the same and the efforts involved in managing it will be nearly identical. However, what’s different this time around, are the reasons for the trend and how to best take advantage. Let’s dig deeper in the rise of single-family homes and where a Self Directed IRA can find its place. 

The Single-Family Home and the Self Directed IRA: An Optimal Pairing 

Before discussing the current trend, it’s good to get grounded in the basics. Why have single-family homes traditionally been a popular choice for Self Directed IRA investors? There are a number of reasons that have cemented single-family homes as the king of assets. 

  1. Pricing – The economics of single-family homes is almost a perfect fit for many Self Directed IRAs. The price of purchase will normally be covered by the funds in the account. Even in the case where a non-recourse loan is taken, the rental will more than cover the loan payment. 
  1. Profits – For the investment involved, single family homes provide an intuitive and predictable source of account growth. The rental income is consistent, and in almost all cases the home itself will grow in value over the course of the investment. 
  1. Manageability – Dealing with just one tenant allows the Self Directed IRA account holder to choose the most suited candidate and gets rid of any intra-tenant squabbles. This is especially important for working investors. The time constraints of your “regular” job likely don’t leave you a lot of time to be involved in property management. 
  1. Independence – Single family homes typically have a low correlation to the stock market. This makes them a good asset to provide balanced diversification. It also helps them function as a hedge against inflation. 

Why Commercial Investors Got Involved 

Although single-family homes don’t lend themselves to the efficiencies that larger properties do, sometimes the numbers are just compelling. That happened with the recession of 2008. At that time home values collapsed but rental prices didn’t follow suit. (At least not to the same degree.) That left an opening in the market which commercial investors jumped on. Firms like Blackstone started buying up single-family homes because the cost-to-rent ratio was great.  

Another push for institutional investors was the identification of a growing single-family trend. Millennials were coming of age with young families and they were looking for solid family residences. However, even those with good jobs, could not necessarily purchase a starter home because they were facing a different economic pressure: student debt. As a result, they turned to their second-best option: a single-family rental. For these and other reasons, the single-family market has grown, and currently, there are 23 million single-family rentals in the U.S. 

Market Trend: Growth or Saturated? 

Before a Self Directed IRA buys into the latest trend, research is necessary to determine the viability of the trend. The move to single-family homes has recently been bolstered by the Covid-19 pandemic. Families moved away from more congested city areas to the safer environments of the suburbs. Although it is impossible to know if that movement will continue, for the near future it certainly seems to be a constant. Hopefully, scientists will be able to get a grip on the various strains of the virus, but even if they do, fear of Covid (or something similar) currently runs deep.  

Another factor to consider is the fact that housing demand currently exceeds housing supply. According to the Housing Supply Chartbook from the Urban Institute, this is a trend that has been consistent since 2009. The pace of building and existing home sales have not kept up with the U.S’s growing demand. This has caused lease schedules to be filled easily and put an upward pressure on rent prices. Overall, the single-family trend looks like it’s here to stay for the foreseeable future. 

Can the Single-Family Trend Be Reversed? 

Any trend can be reversed; it’s just a question of structuring your finances accordingly to work with the percentages. The advantage of a Self Directed IRA is that it gives investors the requisite flexibility. They can use a Self Directed IRA to diversify properly and respond appropriately to changing conditions. In the case of single-family homes, those conditions could change for any number of reasons. 

  • Apartment prices drop – If apartment prices drop enough, it could create a trend in the opposite direction. It is highly unlikely that large apartment complexes will be knocked down anytime soon. That being the case, if prices do drop there will suddenly be a flood of availability. As much as families enjoy a more spacious lifestyle, economics almost always wins in the end. 
  • Building ramps up – The current housing climate has sparked a building frenzy. One of the more interesting trends to result is the emergence of “build-to-rent” communities. These are large developments where the individual units are all single families. Although the numbers are not anywhere near the point of filling the gap, conceivably at some point the supply will overtake demand. 
  • Public policy – Affordable housing has become a more pressing issue for political agendas. There are no clear solutions yet, but the possibility always exists of the government throwing money at the problem. If done in an effective manner, it could affect the viability of the single family rental market. 

Self Directed IRA Takeaways 

There are no crystal balls in the investment arena, but for the near future, single-family rentals appear to be a solid asset. They provide an affordable entry point to real estate and deliver the predictable returns that are important for retirement investing. In the case that the market starts to shift, a Self Directed IRA has enough built-in flexibility to allow investors to respond accordingly.