You might not have known that you can purchase investment property in a retirement account? Stocks, bonds and joint funds are not your only retirement investment choices. When setting up a self-directed retirement account, you have the elasticity to buy other investments, such as individual rental properties as well as other kinds of real estate. Investment property can be an abundant way to develop your nest egg. Real estate can be a wonderful tool against inflation. It can generate income while also appreciating. You can see and feel it; which is why they call it real estate. You can apply the power of leverage by using a loan to help buy the property. How do you set up your personal self-directed retirement account?
Setting up a Self-Directed Retirement Accounts
Why isn’t this idea more popular?
Self-directed Retirement Accounts can grow in value with the same benefits of your typical employer based 401K, tax liens, notes and even convert into your own personal money creditor. To achieve this, most individuals set up a Self-Directed Ira with an IRA overseer…and then learn how to juggle the curveballs that go along with it. But did you know that there is a improved way? You’re about to learn what most investors will never see about investing in real estate in a retirement account. Presenting…
The Solo 401K
The Solo 401K, also known as an individual 401K or i401K, can be a wonderful alternative to a Self Directed IRA for resourceful real estate professionals. Here are some of the benefits:
• The Checkbook:
With an individual 401k, you are creating a 401k plan for your own business. You can select yourself as the administrator and the administrator (you) is the one that pens the checks. Having the checkbook is far more proficient than going through the custodian intermediate. For instance, if you find an amazing deal and would like to get it under contract with earnest cash on the spot, you can do that with the solo 401K, but with the self-directed IRA, you have to wait for your custodian to cut the check which could cause you to lose the deal.
• No UBTI:
With both the self-directed IRA and the solo 401K, you can use loaned out money to aid with the buying of real estate as long as the loan is in non-recourse. Still, with the solo 401K, you will sidestep the Unrelated Business Taxable Income (UBTI) issue that is prompted with a self-directed IRA.
• Higher Contributions:
The entire contributions to a solo 401K can be more per year than a self-directed IRA. Plus, there are no revenue restrictions for Roth contributions.
• Error Forgiveness:
If you involved in a prohibited transaction, you have a chance to correct your error in an i401k. With a self-directed IRA, a prohibited transaction typically ends up in a liquidation of the plan. And a liquidation has substantial consequences and tax penalties.
• Long Term Cost Savings:
The fees to set up an i401K are typically higher but the costs to sustain it are far less than having to pay a custodian each year. IRA custodians charge a percentage of the total in your account so the more prosperous and bigger your self-directed IRA turn out to be, the more you have to pay. While with the solo 401K, the insignificant ongoing fees to sustain it usually just involve keeping your plan up to date with the correct paperwork.
• Be Your Own Bank:
The feature that entices investors to the individual 401K is the capacity to borrow up to $50,000 from it. You can devote that borrowed money to anything you want. Just make sure you pay yourself back ☺
You might be wondering, “How come I’ve never heard of this?”. One, it only was just devised in 2001, so a lot of people don’t know about it. Two, financial managers and consultants normally stick with what they know and many aren’t up-to-date on the i401K. Three, IRA custodians are able to earn more fees from self-directed IRA accounts since individual 401Ks require less communication. Four, the solo 401K isn’t a choice for those who don’t have their own business. That is why it is very important to know the requirements.
Individual 401K Requirements
Meeting the stipulations for an individual 401K was tailor made for resourceful real estate investors:
• Operate a Business:
You must operate a business since theoretically, this is a 401K plan for your company. You don’t need to combine or file documents with the Secretary of State to have a business, it can be as simple as a sole proprietorship or partnership, but you must at least have a small business…and that’s precisely what most resourceful real estate investors have.
• Some Earned Income:
Your income in this business must have some sort of earned income (or the intent, if you just created it), even if the bulk of it is passive income from rental property. Most creative investors can produce some earned income from a wholesale, a job, or a flip.
• No Full Time Employees: Although you can have 500 independent freelancers as well as part-timers, you can’t have any full time employees outside of your wife/husband. Most creative investors fit this criteria as well.
Yes, there are a few disadvantages to be conscious of, too.
• Experienced Counsel:
Very few advisors and/or IRA custodian companies really have knowledge and a sincere understanding of how to properly set up and then instruct resourceful investors on the nuances of real estate investing in a solo 401K.
• Open a Bank Account:
Your current bank where you hold all of your other accounts might not be able open an i401k bank account. Some bankers will look at you like you are crazy when you attempt to open one. But if you are a creative investor, you are surely used to people being perplexed by your out-of-the-box thinking. ☺
• Obtaining Title Insurance:
Getting title insurance issued on solo 401K purchases can often times be quite a task. Title insurance underwriters don’t at all times know how to handle them.
Perhaps the main downside to the i401K is also its leading strong point…giving you the driver’s seat and having no one in the middle to keep you accountable. Besides borrowing from it, you can’t use your retirement money for private use, even though you may have control of the checkbook. In fact, mixing personal use with retirement funds on any investment is not permitted. So if you are without self- discipline and know that if you have access to the money, you would blow it all, maybe you are better off letting a third party custodian guard you from yourself.
The greatest way to overcome these problems is to work with someone who has substantial knowledge in setting up and managing these plans to resourceful real estate investors. They should be able to set it up correctly with the appropriate paperwork, assist you with opening the bank account, provide resources so that you can educate title insurance underwriters on solo 401Ks and support you along the way so that you avoid any slip-ups. Much like any part of creative real estate investing, you have to work with the correct people.
Solo 401K Investing
Investing in your real estate business using retirement money can be a wonderful opportunity for you. The individual 401K is characteristically a better selection for resourceful investors but everyone’s circumstances are not the same. For instance, some self-directed IRA people don’t want to change and so, to obtain checkbook access, they set up an LLC in conjunction with their IRA. This method works but the costs of the set up and yearly fee for an LLC can be expensive and you still miss out on all the other countless benefits of a solo 401k. More and more resourceful investors are converting to the individual 401k and loving their new plan. Thank you for reading and if you have any questions, feel free to comment below