IRA SPLITTING - A Strategy For Very Smart Investors | Episode 137

If one is good, two must be better, right?  In the world of Self-Directed IRA’s, the answer is probably YES!  You’ll be shocked at just how smart it can be to have more than one retirement account.  I’m Bryan Ellis.  You’ll learn how RIGHT NOW in Episode 137.

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Hello, SDI Nation!  You’re looking great, today, people!  Did you do something new with your hair?  Hehehehe

You know, it’s nice to be back among the living, so to speak.  As my regular listeners know, I’ve been quite ill during the past several weeks, and it was awful.  I’m on a rapid climb back to full health and actually got to work a full day yesterday which has been quite rare lately, but so very welcomed!  My work backlog is huge, and I’m so happy to be with you here right now!

Folks, I mentioned earlier in the week that by end of this week I’ll finish a new e-Book called “The Portfolio Fortress” that outlines a really great, and very efficient, approach to protecting your assets from financial predators, and it’s particularly apt for those of you with at least 3-5 real estate properties in your portfolio.  The most common strategy these days among people who are concerned about rogue lawsuits is to put every different property into a separate single-member LLC, but it seems like a new court decision every month is proving that strategy to be wildly ineffective.  There’s a better way, and it’s far more efficient than having a separate LLC for every property, and I describe that approach in The Portfolio Fortress.  I’m going to publish it on Amazon for sale there, but I’d like to give it to YOU as a listener to this show for free, if you request it before publication.  The way you get it is to text the word FORTRESS to 33444.  If you’ve already texted FORTRESS to 33444, you don’t need to do it again, I’ll send the ebook to you on today or tomorrow when it’s ready.  But if you’ve not yet requested a free pre-publication edition of it, then text the word FORTRESS to 33444 and I’ll be happy to send you a copy when it’s done in a couple of days.

So… two or more IRA’s?  Who would ever need to do such a thing?  Hehehehe

There are actually many reasons one might consider doing so, and at least one you may have never before considered that I’ll tell you in a moment.

First things first:  There’s nothing in the law that prohibits you from having more than one IRA.  You can have a traditional and a Roth.  You can have multiple traditionals, multiple Roths, a 401k and a SEP mixed in for good measure, and so long as you qualify to make contributions to those accounts, and don’t go over the proscribed limits each year on a cumulative basis, then it’s fine to have multiple accounts.

Sure, there are rules.  For example, if you have an employer-sponsored retirement plan, then there might be some limits to the deductions you can take from contributing to a traditional IRA outside of your employer’s plan.  That’s an area where it makes good sense to consult with your tax advisor.

But the general idea is this:  It is totally kosher to have more than one retirement account.

But is there any reason to do so?

The answer – particularly for many self-directed IRA owners – is ABSO-FREAKIN-LUTELY!

The reason, in two words, is PROHIBITED TRANSACTIONS.

For my newer listeners, to commit a prohibited transaction means you’ve broken one of the rules that the IRS has put in place for your retirement account.  While those rules are complex, they’re easy to boil down into simple concepts:  You can do anything where the money in your account ends up in your own pocket, or the pockets of your family members, unless through a proper account withdrawal.  You can’t use slick strategies to contribute more to the account than the law allows.  You know, things like that which, honestly, seem pretty reasonable to me, given the magnitude of the tax advantages offered by these accounts.

So here’s how Prohibited Transactions tie into the notion of having multiple IRA’s.

Imagine with me, if you will, Joe Blow who has an IRA that’s worth a million dollars.  He has one and only one real estate transaction in that account – a small one – and the rest of his investments are in stocks and bonds.  That one real estate transaction was for $50,000 and he made that investment 5 years ago.  Unfortunately, he didn’t know the rules, and he purchased that property from his grandfather.  That’s a prohibited transaction… but he doesn’t even know it.

So 5 years pass, and the IRS audits Joe.  They determine that his real estate investment was a prohibited transaction, and so he’s got to pay the piper.

What are the ramifications?   You might think it doesn’t matter much since his real estate investment only amounts to 5% of his account value.  But you’d be wrong.  You see, from the perspective of the IRS, Joe’s ENTIRE ACCOUNT stopped being an IRA as of January 1 on the year when he bought that property.

What does that mean?  Well, for starters, it means that he’s got to pay back any deductions he took for the last 5 years for any of the contributions he’s made to his IRA, along with penalties and interest.  That’s a pain in the rear, but it’s not that much money in the grand scheme of things.

But that’s not the real issue.

The real issue is that the prohibited transaction has that effect on EVERY SINGLE ASSET in the account.

And that’s a huge problem.  Because in the past 5 years, Joe has made some shrewd stock investments, and has realized profits in excess of $450,000.  Since those profits were in an IRA, he had no tax liability for those profits.

But suddenly, all because of one poorly-executed transaction, he’s got a real problem.

Joe now owes regular taxes on his $450,000 of profit.  But worse than that, he owes penalties and interest.  And folks, now we’re definitely talking about a bill in the multiple hundreds of thousands of dollars… again, just because he didn’t understand the rules about prohibited transactions.

How could he have avoided this?

One really easy way would have been to use multiple IRA’s.  Here’s what I mean:

Some transactions, like buying publicly traded stocks and bonds, have a practically zero risk of committing a prohibited transaction.  From the vantage point of prohibited transactions, those are very “safe” assets.

But real estate transactions, and other transactions that are inherently more complicated than just calling your broker to place an order… those are the transactions where there’s real risk of a PT.

What to do?  If Joe was smart, he’d have simply transferred enough of the money in his main IRA to a secondary IRA, and he’d have done the real estate transaction in that account, all by itself.

Why?  Prohibited Transactions inherently screw up the ENTIRE IRA in which they’re committed.  In other words, if you mess up with any one investment, every other asset in the account suffers the same fate.  And it’s a fate that can be, financially, rather Armageddon-like.

But if you’re smart enough to put risky transactions – including virtually all real estate transactions – into their own separate account, you’re inherently insulating all of your other assets from that risk.  Because while a PT does result in the “disqualification” of all of the assets in a specific IRA, that fate doesn’t actually extend across separate accounts.

And that’s a very good thing.

By the way… this is just another reason to prefer the self-directed 401k over the self-directed IRA.  For 401k’s, the penalties for prohibited transactions are far less severe than for IRA’s, and they apply only to the specific asset on which the violation was committed, and not every asset in the account.  That’s a big deal!

My friends, thank you for your time today.  And remember:  Invest wisely today, and live well forever!

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