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Many investors often ask, “Can I purchase real estate with my IRA?”
What they don’t realize is it’s possible to purchase a variety of assets – including real estate – in individual retirement accounts (IRAs) or other qualified retirement accounts, such as a Roth IRA, Solo 401(k).
As you discover how to use a self-directed IRA to buy real estate, it’s important to understand the rules – or risk losing potential tax advantages of the account.
One of the most common questions about real estate IRAs is: “Can my IRA purchase a property that I currently own?”
The answer is always no.
IRS regulations don’t allow transactions that are considered “self-dealing,” and they don’t allow your self-directed IRA to buy property from or sell property to any disqualified person, including yourself, certain family members, and others.
The IRS lists the following as disqualified individuals: yourself, your beneficiary, your fiduciary, and members of your family (spouse, ancestor, lineal descendant, and any spouse of a lineal descendant).
Other common questions include, “Can I purchase a vacation home I use with my self-directed IRA?” “Can I rent office space from a building that my self-directed IRA owns?”
This real estate IRA rule is in place because the purpose of a Traditional or Roth IRA is to provide for your retirement at some future date. It’s not intended to benefit you (or any other disqualified person) today. If your IRA engages in a prohibited transaction (a transaction that, in some way, benefits you or a disqualified person), this is considered an “indirect benefit.”
The IRS’s prohibited transaction rules list the following other examples of possible violations:
If it is determined you engaged in a prohibited transaction, your IRA will stop being an IRA as of the first day of the year in which the transaction occurred. All assets from the account will be distributed to you and may count as taxable income for that year.
If you purchase a property with your IRA or other qualified retirement account, can you make updates or rehab the property yourself?
IRS rules note that providing services between a disqualified person and a plan is considered a prohibited transaction. This means that performing work on a property that your IRA owns is not permitted.
As a rule of thumb, it is generally OK to perform “desk work” associated with an investment, but not sweat equity. Consult with your financial or tax professional for guidance on your specific situation.
Video: Can You Work on a Real Estate Property Your IRA Owns?
You and your IRA are two separate entities. As such the investment needs to be titled in the name of your IRA—not to you personally. All documents related to the investment must be titled correctly to avoid delays.
The correct title for most real estate IRA investments is:
“Equity Trust Company Custodian FBO (for benefit of) [Your Name] IRA”
There are exceptions, such as if your IRA will not own the investment outright.
Learn more about titling your self-directed real-estate investment.
You can purchase property in more ways than just an outright purchase of the full amount from your account.
Options for funding real estate include:
If you do obtain a non-recourse loan for your IRA real estate investment, unrelated business income tax (UBIT) applies.
When your IRA buys a property, the IRA is responsible for paying taxes on the profits attributable to the debt-financed percentage. In other words, the percentage of profits subject to taxation is determined by the percentage of the property that is debt-financed.
You are also permitted to write off depreciation and other operating expenses on a percentage basis, which can reduce the amount subject to taxation.
Video: Non-Recourse Loans and Self-Directed IRAs
One of the final self-directed IRA real estate rules to know involves expenses from the investment property. All expenses related to an investment property owned by your self-directed IRA (maintenance, improvements, property taxes, condo association fees, utility bills, etc.) must be paid from your IRA.
This is done by requesting the funds from your IRA custodian.
Likewise, all rental property income, sale proceeds, or other income generated by a property in your self-directed IRA must be returned to your IRA custodian to be deposited back into your account.
If your IRA partners to make an investment, the proceeds from the investment must return to the account in the same proportion in which the purchase was made.
For example: if your Traditional IRA funded 75 percent of the purchase, 75 percent of the proceeds must go back into that IRA.
If you financed a portion of the purchase with a non-recourse loan, it is possible to write off that proportion of expenses and depreciation on the property on your tax return. Consult your tax professional for more information.
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