Self-Directed IRA Real Estate Guide 2022 - TFS Properties (2024)

Many Americans think of IRAs and immediately associate them with the stock market. In many cases, these types of IRAs are volatile, and can even lose money in some instances. However, what a lot of people don’t realize is that they have the option of a self-directed IRA (SDIRA) as well.

A self-directed IRA allows you to enjoy the same tax benefits as a normal IRA, but you have much more flexibility in terms of what you want your IRA funds to be invested in.

For example, you can choose to invest in commercial real estate, real estate options, promissory notes, tax lien certificates, limited partnerships, LLCs, Sub-C corporations, and some types of precious metals, in addition to the normal stock investment options of a regular IRA. In this article, we’ll be focusing specifically on the self-directed IRA as it applies to real estate investments.

Let’s take a look at what a typical SDIRA real estate investment process might look like.

Susan has $250,000 in a Roth IRA at her bank. She is interested in investing in real estate, but her bank that currently serves as her IRA custodian does not allow for real estate investment. So, Susan opens a self-directed Roth IRA account online with a different custodian and initiates the process of moving her money into the new account.

While the transfer is processing, Susan enlists the help of her real estate agent, Josh, to find some potential properties within her budget. They settle on a property that is listed for $179,500, and once the transfer is complete, Susan is ready to make an offer. Josh advises her that she can make the purchase in several different ways: through a direct purchase, partnering, leveraging, or by using a limited liability partnership. Susan decides to go with a direct purchase all-cash offer, titled in the name of her SDIRA as per the rules we outlined above.

The offer is accepted and Josh selects a title company to open escrow while Susan initiates the purchase by having her SDIRA custodian wire $10,500 to the title company to cover the earnest money deposit, inspections, and other expenses. Once Susan has reviewed all the relevant purchased documents, her SDIRA custodian signs the documents on behalf of her SDIRA. The remaining $169,500 is wired from her SDIRA to escrow, and Susan’s SDIRA is officially the property owner.

Susan eventually selects a rental tenant and her SDIRA custodian signs the rental agreement. Rent checks are paid directly into her SDIRA and maintenance costs and other expenses are paid straight from the SDIRA. She can then sit back and watch her SDIRA grow, tax-free.

There are three main benefits of using an SDIRA to invest in real estate:

1. it offers increased return on investment (ROI) potential,
2. the ability to exercise much greater control over your financial future, and
3. it can help you protect yourself against fluctuations of the economy.

With an SDIRA, you can choose from a broader range of potential investments and a greater range of risk – and with higher risk often comes higher ROI. In a normal IRA, diversification is the main strategy to try to protect yourself from fluctuations in the stock market. With an SDIRA, you can diversify even further by investing in alternative assets other than the stock market.

There are a few risks or cons to be aware of when considering investing in real estate with an SDIRA.

First, you must always complete due diligence on a property that you are considering purchasing in order to ensure that the investment is a good one. A trusted real estate agent can be paramount in helping you achieve this.

Second, there is unfortunately always a risk of fraud. To avoid falling prey to a fraudulent scheme, verify that your SDIRA information is correct on each statement, do not accept any unsolicited investment offers, ask questions and avoid people who do not answer them, be wary of ‘guaranteed returns,’ and don’t be afraid to ask a professional for help if you are ever unsure.

Finally, as with stock investments, you will want to be sure to diversify your real estate investments to mitigate risk.

If you are self-employed, a self-directed IRA may actually be a less effective plan than a Solo 401(k). There are several reasons for this:

• Higher contribution maximums
• Tax-free loan options
• You can use non-recourse leverage and pay no taxes
• You can open a Solo 401(k) at any bank
• You don’t pay for an LLC
• Better credit protection
• Easier to administrate
• IRS approval to safeguard against audits
• Open architecture plan

The government allows people to have more freedom with their investments with an SDIRA, but they don’t want things getting out of control, which is why they implemented the custodian system. A custodian is generally the SDIRA company or bank that you have your account with. They act as the intermediary when you are making an investment, and often have guidelines on what you can choose to invest in, how long the process will take, and so forth.

However, some have fairly lax policies and some have more fees than others, but you can always shop around for your ideal balance of freedom and price.

The information contained within this article is not intended to be construed as written legal advice. To the extent you need assistance or guidance on any information contained within this article please consult your tax advisor.