WARNING: Why your I.R.A. is DANGEROUS For Real Estate Investments! | Episode 131

Real estate can be a great investment for retirement.  Retirement accounts can be a great way to eliminate taxes.  So you might be surprised to discover it may be a TERRIBLE idea to buy real estate inside your IRA or 401k.  I’m Bryan Ellis.  I’ll tell you why RIGHT NOW in Episode #131.

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Hello SDI Nation!  Welcome to the podcast of record for savvy, self-directed investors like you!

No secret here, my friends:  I love self-directed retirement accounts… particularly roth accounts.  The tax advantages are really amazing and for many people, the bigger and less well-known benefit comes from the estate planning potential of those accounts.

So it’s my default to assume that if an investment can be done inside of a self-directed IRA or 401k, that it should be.  And while it turns out that’s a reasonable DEFAULT for nearly every other asset class, that default is absolutely NOT true for real estate, and we’ll talk about why right now.

But first, a quick announcement for those of you who own real estate notes.  If you own a real estate note, may I interest you in a nice wad of cold, hard CASH?  I’m looking to acquire some first-lien real estate notes, and am ready to make it happen right away.  So if you personally own one or more notes – no brokers, please, this ain’t my first rodeo – and if you’d like to find out more about converting your note into a big chunk of cash, reach out to me now by texting the word SELLNOTE with no spaces to 33444 or go to SDIRadio.com/sellnote.  Again, that’s text the word SELLNOTE spelled SELLNOTE (with no spaces) to 33444 or go to SDIRadio.com/sellnote. 

Now… on to the question of:  Should you do your real estate investing through your retirement account.

You know, there are some amazing benefits to investing for retirement through an IRA or 401k, particularly the self-directed versions of those accounts.  The tax benefits are astounding.  For example:  Let’s say that you make an investment and experience a profit of $250,000.  Well, outside of a retirement account, you’re going to owe taxes on that profit… and those taxes could very, very easily be way over $100,000.  So you sell your investment, you pay your taxes, and you’re left with $150,000… and then you can make another investment.

But with a retirement account… that profit is sheltered.  The $100,000 you’d have paid in taxes stays in your account, not subject to taxation, and you can reinvest it in any type of asset you’d like.  So, in other words, your profits accrue entirely tax free.

And depending on whether you’re using a traditional or roth account, you’ll get other tax advantages too.  With a traditional account, you get to take an income tax deduction for money that you deposit into the account.  And with the Roth account… it’s REALLY amazing… you actually never, ever have to pay taxes on your profit at all.  It’s really amazing.

So why in the world would you ever consider NOT doing your real estate investments in an IRA or 401k where these amazing tax benefits can be achieved?

Well, there are a few reasons.

First:  Funding.  If, like most people, you prefer to leverage your investment in real estate by financing some of the purchase with a loan, your options for doing so through a retirement account are very limited.  Tax regulations make it basically impossible to get a loan for your IRA through your local bank or mortgage broker and, in fact, there are relatively few lenders who do the specialized type of lending – called non-recourse lending – that is compatible with retirement accounts in the first place.  And watch out!  You can bet on it that your IRA will actually owe an income tax bill if you get a loan to do deals.  That’s right… not everything is inherently tax-free just because it’s done in an IRA.  So the first big reason to consider doing real estate deals OUTSIDE of your retirement account is that funding becomes substantially more complicated.

The second reason is all about taxes.  You see, the big reason to use a retirement account is because of the tax benefits it offers.  No other reason even comes close to that one.  But real estate – unlike stocks, mutual funds, precious metals, etc – real estate offers some really astounding tax saving potential that renders the benefits of a retirement account far less relevant.  For example, this thing called “depreciation” makes it possible for many real estate investors to substantially reduce, or even eliminate, their present-day income tax burden.  That’s massive, and something that no retirement account can simulate!  There’s also something called a “1031 exchange” that makes it possible for real estate investors to take a huge profit from one deal and roll it over to the next deal without paying any taxes.  There again… HUGE… and goes a long way towards duplicating the tax-free accrual of profits that is offered by retirement accounts.  Bottom line:  Retirement accounts offer some really astounding tax benefits… but with real estate investments, there’s more than one way to skin a cat.

And the final reason to consider doing real estate deals OUTSIDE of retirement accounts is this:  There is substantial inherent RISK in using retirement accounts in the form of prohibited transactions.  The term “prohibited transaction” simply refers to any time you break one of those arcane rules that the IRS has created around retirement accounts.  My friends, committing a prohibited transaction is like financial Armageddon.  The ramifications are severe.  It’s possible your entire retirement account could be wiped away due to taxes, penalties and interest.  And it’s not hard to commit one.  For example:  Imagine you have a rental property in your retirement account.  You receive a bill for $75 for an insurance premium. The bill arrived late and you don’t want your policy to be canceled, so you pay the bill out of your own pocket, and then apply to your retirement account custodian to reimburse that money to you.  That, my friend – as innocent as it is – is a prohibited transaction.  And the reason it’s such a huge problem is because it’s likely to be 3-5 years or more before the IRS discovers that it happened, and once they discover it, they’re going to tag you for taxes, penalties, and interest for the entire time.  It can be a TRUE disaster… and frankly, it’s hard to avoid that type of thing when investing in real estate through your IRA.

So given that the tax advantages available to real estate investors are so substantial even when NOT using a retirement account, I hope you can see why my bias is AGAINST doing real estate deals inside of a retirement account.

But at the end of the day, there’s one beautiful advantage offered by retirement accounts – Roth accounts, specifically – that is just without pier:  The ability to pay absolutely ZERO taxes on profits during retirement.  My friends, that one alone could outweigh everything else.

So what’s the right answer for you?  Obviously, the answer is to speak with your own tax professional to determine whether that real estate investment you’re considering should go into your retirement account or not.  Because in real estate, unlike nearly every other type of asset, there are so many different ways to get great tax advantages, that it’s a wise use of your time to consider each one, with professional guidance.

And one final time, folks… if you own any real estate notes and you’d like to convert that into a nice wad of cash, let’s talk.  You can reach me by texting the word SELLNOTE to 33444.  That’s SELLNOTE with no spaces.  Text the word SELLNOTE to 33444 or go to SDIRadio.com/sellnote.

My friends, invest wisely today… and live well forever!

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