Self Directed IRAs
Investing IRA funds in real estate used to be quite complicated, time-consuming, and expensive. Deals had to be administered by IRA custodians every step of the way, complicating the process, and fees had to be paid to the custodian every time the IRA made a move. Although, much of this is still true with many traditionally IRAs, investors can avoid a lot of unnecessary and costly steps by using a self-directed IRA.
A self-directed IRA is simply an IRA in which the IRA owner is able to make investment decisions without having to get the custodian’s approval. The favorite instrument for opening a self-directed IRA is the Limited Liability Company, which allows the IRA owner to have absolute checkbook control over his or her IRA. This means every time you have to pay an expense associated with an IRA asset, you can write the check yourself and avoid custodian fees.
Making Money with Real Estate
Self-Directed IRAs are great for avoiding taxes on gains, especially for flipping properties. It is recommended that you use the SDIRA for real estate transactions that generate immediate (or almost immediate) taxable income (such as flips or options) and generally not buy and hold deals, that already shelter other income via componentizing.
There are three basic ways to purchase real estate with a self-directed IRA:
• Purchase with cash
• Partner with family, friend, or business associate
• Borrow money for investment
1) Purchase with Cash
If you have sufficient funds in your self-directed IRA to cover the purchase price, closing costs, taxes, insurance, etc., you can purchase a property outright. All ongoing expenses are paid in total from your self-directed IRA, and all income/profits are returned in total to the IRA.
2) Partner with Family, Friends, Business Associates
If you don’t have enough funds for a cash purchase, your self-directed IRA can purchase an undivided interest in a property.
For example, with your self-directed IRA, you could partner with a family member, friend, or business associate to purchase a property for $100,000. The friend could provide 70%of the purchase price ($70,000), and your self-directed IRA could purchase the remaining 30% ($30,000).
All ongoing expenses must be paid in relation to your percentage ownership. In our example, for a $1,000 property tax bill, the friend would pay $700 (70% of the bill and your self-directed IRA would pay $300 (30%). If the property collected monthly rent of $1,000, the friend would receive $700 (70%), and your self-directed IRA would receive $300 (30%).
3) Borrow Money for Investment:
Through your SDIRA, you could get financing such as a mortgage for a real estate deal. You must consider two points when considering this option:
a) Loan must be non-recourse – Per IRS regulations, an IRA cannot guarantee a loan or be used as collateral. A non-recourse loan only uses the property for collateral. In the event of default, the lender can collect only the property and cannot go after the IRA itself.
b) Tax is due on profits from leveraged real estate – If your IRA uses debt financing such as a loan on a real estate investment, a tax will probably be due on profits. This tax is called unrelated business income tax (UBIT).
SOLO 401 (K)
We all know that investing in real estate not only brings quick cash but also builds long-term wealth. In fact, many successful people would rather build a real estate portfolio as their retirement fund, than rely on traditional pensions and shaky stock markets.
But how do you get your hands on the money to do real estate deals? This is usually the issue many novice investors have and they fall at the first hurdle and never achieve their dreams of financial wealth and security.
There’s no way to sugarcoat this: to get serious in real estate, you often need a lot of cash to invest. Most people don’t have enough in savings, but many have sufficient funds in their IRA, 401k, or other retirement accounts. In fact, many investors prefer to convert their failing retirement accounts to self-directed retirement accounts to make such investments.
A Solo 401k (for qualified self-employed individuals) or Checkbook IRA allows you to invest your retirement funds how you want when you want, and into virtually any investment including real estate. You stay in full control of your retirement account.
What is a Solo 401k?
A Solo 401k is a great retirement plan for self-employed individuals or business owners with no employees or part-time employees only. Business types such as sole proprietorships, family businesses, partnerships, and corporations can take advantage of what the Solo 401k has to offer–maximized savings at a low cost and the flexibility to invest in traditional and alternative investments tax-free or by deferring taxes.
There are many features of the solo 401k that make it attractive to business owners:
- Alternative Assets & Equity Investments
- A Solo 401k allows you to invest in many types of investments including; stocks, mutual funds, real estate, hedge funds, gold, private loans, private equity, and more.
- Participant Loans
- With a Solo 401k, you can take out a loan or borrow from your retirement funds.. Loans can be processed from the Solo 401k at 50% of the account balance but cannot exceed $50,000.
Who is eligible to open a Solo 401k?
Any business owner and their spouse can open a Solo 401k. There can be no participation from full-time employees in the business.
What type of business must I own to qualify for a Solo 401k?
Eligible businesses must:
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- Be self-employed without any employees
- Have part-time employees who work less than 1,000 hours per year
- You are trying to put away as much as possible for retirement.
HARD MONEY
Hard Money is a term you will often hear amongst real estate investors because it is another way to generate cash for real estate deals. Hard money lenders are sometimes the only people willing or able to give you the money you need to get your deals done. Hard money is great for beginning investors who may not have money or for those who have bad credit and cannot qualify. Investors also use hard money when they need to purchase quickly. But what exactly is Hard Money and how do you find a good hard money lender?
What is Hard Money?
Hard money is no more difficult to obtain than ‘soft money’, but its terms are very strict because most hard money comes from private individuals with a great deal of money on hand. This is why hard money is also referred to as “private money”. The money used for investment purposes comes from people, just like you and I, not a typical lending institution. So their first priority is to protect their investment capital. This is why the terms have to be so strict.
Hard Money Terms
Hard money lending terms vary from lender to lender. It used to be that hard money lenders would lend solely based on the deal or property at hand. They would only lend up to a certain percentage of the fair market value of the property, that way in the event of default, the hard money lender would profit handsomely if they had to foreclose or sell to an end buyer. Now, you will find that many hard money lenders, if they want to stay in business, require more than just equity to qualify. This is because the laws now are favorable for consumers. Consumer protection laws, time-consuming and expensive court procedures, and so on have forced some hard money lenders to become even harsher when applying for a loan.
Here are some of the terms you can expect to see when borrowing ‘hard money’. Typically they will only loan you up to 70% ARV (after repaired value). This means that a hard money lender can loan you up to 70$ of what the home is worth in repaired condition. So if you find a home worth $45,000 in the condition it’s in and needs $20,000 in repair work, and after it is repaired the current fair market value is worth $100,000, then typically they can lend you up to $70,000, which would cover the cost of the house and the repairs.
Interest rates vary from 12% – 20% annually and terms can last for 6 months to a few years. Many times these rates vary depending on your credit score and experience.
How to Find a Hard Money Lender
Here are some tips to find a good money lender to help you fund your deals:
• Talk to other investors and ask for referrals. This is a great way to weed out the ‘bad’ and find the gems.
• Ask settlement/closing attorneys
• Accountants can be a good source for HML
• You can often find lenders attached to deals at the courthouse
• Insurance agents and mortgage brokers are both good sources
I address many of these issues in my Wealth Building Plan. Make sure you are getting the best tax advice. Let me evaluate your financial and tax situation, then develop a customized tax strategy just for you. Together, we will come up with a strategic plan designed to answer your questions as you build your own customized wealth-building plan. You can get more information at Wealth Building Plan.
