Checkbook 401k plans, Checkbook IRAs, Checkbook QRPs and other self-directed retirement accounts that allow real estate investing with tax advantaged funds should be part of every real estate agent’s financial plan. This article will introduce the fundamentals of such accounts and the opportunities they present for those that have an insider’s view of the real estate market.
What Are Self-Directed Retirement Accounts?
Self-directed retirement accounts, which can be in the form of IRAs or Qualified Plans, allow you to use retirement money for non-traditional investments and retain all the tax benefits of those vehicles. Real estate investing is by far the most popular investment for such accounts, with other common assets being real estate secured private loans, private loans, hard money loans, mortgage notes, and tax liens – all of which are forms of income generation from real property.
What Can A Self-Directed Retirement Account Do For You? What Can It Do For Real Estate Pros?
Real estate provides far greater opportunity and far higher risk-adjusted returns than the stock market, for those that can engage in “insider trading.” For stock-market investors, insider trading is a crime punishable with long jail sentences; for real estate pros, it’s the way the game is played. While stock markets are efficient and present little opportunity for extreme returns, real estate markets oftentimes present inefficiencies that can be exploited by those that know the field. There are motivated sellers, short sales, foreclosures, forced appreciation and underpriced properties, which real estate pros know best and, perhaps more importantly, know first.
If you’re a real estate agent, you could do some great deals with your retirement money and do far better than the stock market. Alternatively, you could help clients access capital in retirement accounts for purchases. Or, you could have IRA and Solo 401k owners be the private lenders for yours or your clients’ deals.
Are Self-Directed Retirement Accounts Legal?
The tax code allows for retirement accounts to be invested in nearly every asset class, but due to the structure of our financial system IRA custodians and Qualified Plan administrators restrict participants to investing in publicly traded securities. When setting up an IRA with financial institutions you’re accustomed to getting the retirement account for free, but common sense tells you that you’re paying for those services. But where and how? The fees for those services are buried within the costs of the investments on the brokers’ platform. That being the case, giving account-holders the ability to invest in real estate, which is not available on brokerage platforms, would destroy their business model.
In fact, the tax code does not specify what assets may be held by retirement accounts; rather, it provides a short list of investments that are not allowed. All investments that are not explicitly disallowed are permitted. Disallowed investments for IRAs are life insurance and collectibles. For Qualified plans, which include Defined Contribution and Defined Benefit plans, the only disallowed investments are collectibles. The upshot of all this is that real estate investing, in all its forms, is fair game for tax-free retirement account investing.
How Do You Get Control of Retirement Funds For Real Estate Investing?
Getting Control of IRA Funds with Self-Directed Accounts and IRA-LLCs
The tax code requires that IRA funds be held by qualified custodians and there are specialized trust companies that offer self-directed accounts. In the plain-vanilla set-up, all real estate transactions are handled by the custodian trust company that holds the IRA. This structure, albeit provides the ability to invest the IRA in alternative assets, must contend with the drag of transactions processing and associated fees imposed by the custodian.
A novel structure, using an IRA-LLC, can be used to get “checkbook control” to increase efficiency and reduce fees. With a checkbook control IRA, you get total control of the funds and custodian involvement in transactions is obviated. Checkbook control allows you to grab opportunities as soon as you discover them.
Checkbook-Control Solo 401(k)s and Defined Benefit Plans: Perfect For Real Estate Agents
Real estate agents, who have self-employment earnings, can easily use the best tax-advantaged vehicles provided for by tax law: Qualified Retirement Plans or “QRPs.”
Due to non-discrimination rules that don’t allow for unequal benefits among retirement plan participants, Qualified Plans for large firms are costly to administer and are of limited benefit to the business owners. Real estate agents that are self-employed and don’t have employees can access the full tax benefits of 401(k) plans and Cash Balance Plans without any of the limitations.
These plans don’t require a custodian and allow for sheltering, potentially, hundreds of thousands of dollars from income taxation. Just think about it: get a hundred thousand dollar tax deduction and invest the money in real estate.
Are Checkbook Control Retirement Plans Too Good To Be True?
Checkbook control retirement plans provide incredible benefits, but are accompanied by a requirement to be aware of some compliance matters. The key concepts to be aware of are Prohibited Transactions and UBIT, which are special tax rules that apply to tax advantaged entities. Those can be navigated so long as you’re aware of them and have access to a tax adviser that is knowledgeable about those niche areas of tax law.
Self-directed and checkbook retirement accounts present incredible opportunity for real estate agents, both for personal financial planning and professional sales activities. All real estate pros should explore them to learn how such structures can be incorporated into their financial game plan.