The Real Estate Investor’s Guide: Using a Self Directed IRA to Buy Real Estate


Using a self directed IRA to buy real estate


“Every nickel I make gets put back into real estate.”

This is what an investor told me my first week of working on Wall Street. At the time I didn’t understand it, but this quote epitomizes the mind of the typical real estate investor. All they know is real estate, all they trust is real estate, and they are not remotely interested in any other type of investment.

I get it. Real estate is a very attractive asset class. I discussed some of the reasons for this here, These Top 7 Powerful Tools Can Create Legacy Wealth from Real Estate, and Inflation – The Secret to Building Wealth in Real Estate. Real Estate is unique in a number of ways. One of which is the ability to use massive amounts of leverage. When leverage is paired with inflation, you have a powerful combination.

As great of an asset class as real estate is, many real estate investors still come up frustrated.

While real estate investors may choose to invest every nickel they have into real estate, they are reluctantly forced to invest their retirement accounts in stocks, bonds, and mutual funds. Some investors are so turned off by non-real estate investments, they choose to not contribute to their IRAs or 401(k)s at all. This is mainly due to the “inadequacies” (in their mind) of the other available investments.

If they only knew the truth…

So rather than saving for their retirement in a tax-deferred or tax-free account, and potentially getting the significant tax deductions, they choose to ignore the retirement account option completely. Until now…

The Real Estate IRA

Most investors are aware that they can contribute to their IRA each year in order to save money for retirement. Most are also aware that they can use these funds to invest in stocks, bonds, and mutual funds. But very few investors are aware that they can use these funds to invest in real estate.

Yes, you read that correctly. You can use your Self Directed IRA to invest in physical real estate. I’m not talking about real estate, stocks, or REITs, but actual real estate that you can look at and touch.

This includes real estate or real estate related assets such as:

  • Single or multi-family rental property,
  • Commercial or industrial property,
  • Raw land,
  • Farmland,
  • Timberland,
  • Fishing rights
  • Airspace rights
  • Private Mortgages
  • Tax Liens
  • Options on real estate

This capability to invest your self-directed IRA into real estate is actually not a new thing. The Individual Retirement Account (IRA) was created in 1974. When the legislation was originally created for investors, it allowed for virtually any type of investment inside of an IRA. Unfortunately, most people are not aware of this concept. It is a commonly assumed that funds in your IRA or 401(k) are limited to stocks, bonds, and mutual funds. It isn’t true…real estate IRA

I can see that the light bulb just went off in your head.

There are countless ways to use your IRA and 401(k) to invest in real estate. There are just too many to discuss them all here. However, I will give you a brief summary of what you can and cannot do with real estate in your self-directed IRA so that you can take advantage of this new piece of wisdom. If you have an idea that you want to discuss with us, feel free to contact us here.

The Dos and Don’ts of Using a Self Directed IRA to Buy Real Estate

If you are a real estate investor, until now you were probably either investing in stocks, bonds, and mutual funds or not contributing to your IRA at all. So this process might seem a bit different to you. Here is what you need to know.

The 6 Steps of Investing Your Self Directed IRA into a Real Estate Investment

  1. Set up a self-directed IRA at a self-directed IRA custodian – You will have to find a custodian that is suitable for this type of transaction. It is highly likely that your current broker-dealer will not be capable of handling this type of transaction. You can read more about this in our guide on How to Choose a Self Directed IRA Custodian. If you are looking for a complete list of all Self-Directed IRA Custodians and Administrators, this is the best one available.
  2. Fund your account – You can do this by either contributing to your IRA, transferring funds from one of your other IRAs, or you can roll over a 401(k) that you have elsewhere. Any one of these options would help you fund your IRA.
  3. Locate the investment property that you want to invest in with your IRA – This is the fun part. Find a great investment that works for you. I would assume that you are already an expert in this area, so this part should be easy for you.
  4. Do not personally sign any documents – This is very important. You will not be the owner of the property, your IRA will, so your IRA would have to sign for it. Once you locate your ideal property, you will have to request that your IRA sign an offer to buy it. Your IRA would also sign all subsequent paperwork as well.
  5. Close on the property – This works like a typical closing except that your IRA would be doing the purchasing. Make sure there are enough funds in your IRA to complete the closing including all the close fees.
  6. Ongoing maintenance – Now that your IRA has acquired the property, you can start benefiting from your expertise as a real estate investor. There are a number of maintenance items that you should be aware of. Some of these are covered below.

Self-Directed IRA Rules and Restrictions When Investing in Real Estate

  • You cannot put real estate that you already own into your IRA. This would be considered a prohibited transaction (see below). It has to be a new investment from a third party.
  • Prohibited transactions – A prohibited transaction is the one thing that you should be most careful of. A prohibited transaction is what happens when you break one of the rules. This could cause the investment to be considered a distribution from your IRA, and thus you would have to pay the taxes and penalties on that distribution. The problem is when you don’t realize that you have made one of these mistakes. Think about how much it would cost you if you didn’t pay enough taxes for a few years. Think about how much the penalties and interest would be. That is the problem. I would highly recommend that you work with a professional financial advisor, attorney or accountant who has experience investing in real estate with self-directed IRAs.
  • Disqualified persons – A disqualified person is someone who cannot personally benefit from the real estate investment in your IRA. There is a more detailed description and a list of disqualified persons here.
  • You could potentially be taxed on investments in your IRA. Yes, this can happen. It can just as easily happen with stocks and other publicly traded investments as it can with real estate. While this is not common, it is possible. If you want to know how this affects you, make sure you seek help from a financial advisor, attorney, or tax advisor who is experienced in this area.
  • Allowable alternative investments – Your IRA can invest in virtually any asset that is considered an investment. However, there are three exceptions. You cannot invest in Life Insurance, S-Corps, or Collectibles.

As you can see, there are a number of rules to follow to avoid getting into trouble. Before you start thinking that this is too complicated, realize that these rules also apply to your stocks, bonds, and mutual funds. The rules pertaining to IRAs don’t distinguish between publicly traded investments and alternative investments. They are the same in the eyes of the Internal Revenue Code (IRC). The rules are just more visible to you when you invest in real estate.

While the Self-Directed IRA is a great way to use your retirement account to invest in real estate, you are not limited to real estate. You can invest in a number of other alternative investments as well. Investments such as: private company stock, franchises, oil & gas LPs, website URLs, intellectual property, physical gold and silver, structured settlements, equipment leasing, private equity, angel investments, venture capital, movies or films, horses, livestock, royalties, and more.

If you want to invest in stocks, the process is relatively simple. You hit a few buttons on your computer and you are done. If you want to buy real estate in your IRA, it will require more effort on your part. This is where an experienced financial advisor can help you. If you want to know more about investing in real estate in your self-directed IRA, you can contact me here.

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About Innovative Advisory Group: Innovative Advisory Group, LLC (IAG), an independent Registered Investment Advisory Firm, is bringing innovation to the wealth management industry by combining both traditional and alternative investments. IAG is unique in that they have an extensive understanding of the regulatory and financial considerations involved with self-directed IRAs and other retirement accounts. IAG advises clients on traditional investments, such as stocks, bonds, and mutual funds, as well as advising clients on alternative investments. IAG has a value-oriented approach to investing, which integrates specialized investment experience with extensive resources.

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About the author: Kirk Chisholm is a Wealth Manager and Principal at Innovative Advisory Group. His roles at IAG are co-chair of the Investment Committee and Head of the Traditional Investment Risk Management Group. His background and areas of focus are portfolio management and investment analysis in both the traditional and alternative investment markets. He received a BA degree in Economics from Trinity College in Hartford, CT.

Disclaimer: This article is intended solely for informational purposes only, and in no manner intended to solicit any product or service. The opinions in this article are exclusively of the author(s) and may or may not reflect all those who are employed, either directly or indirectly or affiliated with Innovative Advisory Group, LLC.

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