Most people mistakenly believe that their Roth IRA must be invested in bank CDs, the stock market, or mutual funds. Few Investors realize that the IRS has always permitted real estate to be held inside IRA retirement accounts. Investments in real estate with a Self-Directed Roth IRA LLC are fully permissible under the Employee Retirement Income Security Act of 1974 (ERISA). IRS rules permit you to engage in almost any type of real estate investment, aside generally from any investment involving a disqualified person.
In addition, the IRS states the following on their website: “…..IRA law does not prohibit investing in real estate but trustees are not required to offer real estate as an option.”
Advantages of Using a Self-Directed Roth IRA LLC to Purchase Real Estate
Income or gains generated by a Roth IRA generate tax-free profits. Using a Self-Directed Roth IRA LLC to purchase real estate allows the Roth IRA to earn tax-free income/gains and never pay taxes on any future date, rather than in the year the investment produces income.
With a Self-Directed IRA Roth LLC, you can invest tax-free and not have to pay taxes ever! All the income or gains from your real estate deals flow though to your Roth IRA tax-free!
Types of Real Estate Investments
Below is a partial list of domestic and foreign real estate-related investments that you can make with a Self-Directed Roth IRA LLC:
- Raw land
- Residential homes
- Commercial property
- Mobile homes
- Real estate notes
- Real estate purchase options
- Tax liens certificates
- Tax deeds
- Farm land
- Any domestic or foreign real property
Investing in Real Estate with a Self-Directed Roth IRA LLC is Quick & Easy!
Purchasing real estate with a Self-Directed Roth IRA LLC is essentially the same as purchasing real estate personally.
- Set-up a Self-Directed Roth IRA LLC with the IRA Financial Trust Co.
- Identify the investment property
- Purchase the investment property with the Self-Directed Roth IRA LLC. As manager of the Self-Directed Roth IRA LLC, you will not be required to seek the consent of the custodian to make a real estate investment providing you with “checkbook control” over your Roth IRA funds.
- Title to the investment property and all transaction documents should be in the name of the Roth IRA LLC. Documents pertaining to the property investment must be signed by the LLC manager (you).
- All expenses paid from the investment property go through the Self-Directed Roth IRA LLC. Likewise, all rental income checks must be deposited directly in to the Self-Directed Roth IRA LLC bank account. No Roth IRA related investment checks should be deposited into your personal accounts and no Roth IRA funds should be deposited into your personal account.
- All income or gains from the investment flow through to the Roth IRA tax-free!
Tax Advantages of Using a Self-Directed Roth IRA LLC!
Using a Self-Directed Roth IRA LLC to make real estate investments presents a number of exciting tax planning opportunities.
The primary advantage of using a Self-Directed Roth IRA LLC to make real estate investments is that all income and gains associated with the Roth IRA real estate investment grow tax-free and will not be subject to tax upon withdrawal or distribution. This is because unlike traditional IRAs, you are generally not subject to any tax upon taking Roth IRA distributions once you reach the age of 59 1/2.
Structuring the Purchase of Real Estate with a Self-Directed Roth IRA LLC
When using a Self-Directed Roth IRA LLC to make a real estate investment there are a number of ways you can structure the transaction:
1. Use your Self-Directed Roth IRA LLC funds to make 100% of the investment
If you have enough funds in your Self-Directed Roth IRA LLC to cover the entire real estate purchase, including closing costs, taxes, fees, insurance, you may make the purchase outright using your Self-Directed Roth IRA LLC. All ongoing expenses relating to the real estate investment must be paid out of your Self-Directed Roth IRA LLC bank account. In addition, all income or gains relating to your real estate investment must be returned to your Self-Directed Roth IRA LLC bank account.
2. Partner with Family, Friends, Colleagues
If you don’t have sufficient funds in your Self-Directed Roth IRA LLC to make a real estate purchase outright, your Self-Directed Roth IRA LLC can purchase an interest in the property along with a family member (non-disqualified person - any family member other than a parent, child, spouse, daughter-in-law, son-in–law), friend, or colleague. The investment would not be made into an entity owned by the IRA owner, but instead would be invested directly into the property.
For example, your Self-Directed Roth IRA LLC could partner with a family member (non disqualified person - any family member other than a parent, child, spouse, daughter-in-law, son-in–law), friend, or colleague to purchase a piece of property for $150,000. Your Self-Directed Roth IRA LLC could purchase an interest in the property (i.e. 50% for $75,000) and your family member, friend, or colleague could purchase the remaining interest (i.e. 50% for $75,000).
All income or gain from the property would be allocated to the parties in relation to their percentage of ownership in the property. Likewise, all property expenses must be paid in relation to the parties’ percentage of ownership in the property. Based on the above example, for a $2,000 property tax bill, the Self-Directed Roth IRA LLC would be responsible for 50% of the bill ($1000) and the family member, friend, or colleague would be responsible for the remaining $1000 (50%).
Isn’t Partnering with a family member in a Real Estate Transaction a Prohibited Transaction?
Likely no if it the transaction is structured correctly. Investing in an investment entity with a family member and investing in an investment property directly are two different transaction structures that impact whether the transaction will be prohibited under Code Section 4975. The different tax treatment is based on who currently owns the investment. Using a Self-Directed Roth IRA LLC to invest in an entity that is owned by a family member who is a disqualified person will likely be treated as a prohibited transaction. However, partnering with a family member that is a disqualified person directly into an investment property would likely not be a prohibited transaction. Note: If you, a family member, or other disqualified person already owns a property, then investing in that property with your Self-Directed Roth IRA LLC would be prohibited.
3. Borrow Money for your Self-Directed Roth IRA LLC
You may obtain financing through a loan or mortgage to finance a real estate purchase using a Self-Directed Roth IRA LLC. However, two important points must be considered when selecting this option:
- Loan must be non-recourse – A “prohibited transaction” is a transaction that, directly or indirectly involves the loan of money or other extension of credit between a plan and a disqualified person. Normally, when an individual purchases real estate with a mortgage, the traditional loan provides for recourse against the borrower (i.e., personal liability for the mortgage). However, if the IRA purchases real estate and secures a mortgage for the purchase, the loan must be non-recourse; otherwise this will be a prohibited transaction. A non-recourse loan only uses the property for collateral. In the event of default, the lender can collect only the property and cannot go after the IRA itself.
- Tax is due on profits from leveraged real estate – Pursuant to Code Section 514, if your Self-Directed Roth IRA LLC uses non-recourse debt financing (i.e., a loan) on a real estate investment, some portion of each item of gross income from the property are subject to Unrelated Business Income Tax (UBIT). Debt-financed property” refers to borrowing money to purchase the real estate (i.e., a leveraged asset that is held to produce income). In such cases, only the income attributable to the financed portion of the property is taxed; gain on the profit from the sale of the leveraged assets is also UDFI (unless the debt is paid off more than 12 months before the property is sold). There are some important exceptions from UBIT: those exclusions relate to the central importance of investment in real estate - dividends, interest, annuities, royalties, most rentals from real estate, and gains/losses from the sale of real estate. However, rental income generated from real estate that is “debt financed” loses the exclusion, and that portion of the income becomes subject to UBIT. Thus, if the IRA borrows money to finance the purchase of real estate, the portion of the rental income attributable to that debt will be taxable as UBIT.
For example, if the average acquisition indebtedness is $50 and the average adjusted basis is $100, 50 percent of each item of gross income from the property is included in UBTI.
A Self-Directed Roth IRA LLC subject to UBTI is taxed at the trust tax rate because an IRA is considered a trust. For 2016, a Self-Directed Roth IRA LLC subject to UBTI is taxed at the following rates:
- $0 - $2,500 = 15% of taxable income
- $2,501 - $5,900 = $375 + 25% of the amount over $2500
- $5,901 - $9,050 = $1,225 + 28% of the amount over $5,900
- $9,051 - $12,300 = $2,107 + 33% of the amount over $9,050
- $12,300 + = $3,179.50 + 39.6% of the amount over $12,300
The IRA Financial Trust Company will take care of the entire setup of your Self-Directed Roth IRA LLC “Checkbook Control” structure. The whole process can be handled by phone, email, fax, or mail and typically takes between 7-21 days to complete, the timing largely depending on the state of formation and the custodian holding your retirement funds. Our IRA experts and tax and ERISA professionals are onsite greatly reducing the setup time and cost. Most importantly, each client of the IRA Financial Trust Co. is assigned a retirement tax professional to help with the establishment of the Self-Directed Roth IRA LLC "Checkbook Control" structure. You will find that our fee for this service is significantly less than other companies that perform the same or similar services.