Most American residents have an IRA or Investment Retirement Account. They use their IRA to invest in mutual funds or stock for their retirement. What most of them don’t really know is that it is possible to convert their IRAs to self-directed IRA, which can allow them to invest in other assets like real estate. This article will help you understand what a self-directed IRA is and how you can use it to invest in real estate.
What is a Self Directed IRA?
According to Wikipedia, “A self-directed Individual Retirement Arrangement is an IRA that allows the account owner to direct the account trustee to make a broader range of investments than other types of IRAs.”
The Internal Revenue Service requires that a custodian or a qualified trustee should hold the IRA assets on behalf of the owner of the IRA. The IRA assets holder will maintain all the transactions, assets, and other records, issue client statements, file IRS reports, work on the other administrative duties for the self-directed IRA owner, and to make sure that the owner understands the self-directed IRA rules and regulations.
The custodian of a self-directed IRA may provide more details about the other standard asset types options that an IRA owner can choose to invest in. This can be bonds, mutual funds, stocks, loans, real estate, and other types of investments. The range of allowable investments is wide, but still regulated by the IRS.
The IRS regulations does not allow IRA investments in life insurance and collectibles like antiques, rugs artworks, stamps, gems, metal (some types of bullion are exempted), coins (except for coins minted by the US treasury), and other types of personal properties.
The IRS doesn’t clearly describe what you can invest in with self-direct IRA. It only described the assets you can’t invest in. With that being said, real estate is considered as one of the permitted investment options.
This may include commercial and residential properties (both US and International), house flipping, raw land, new construction, farmland, property renovation, passive rental income, and development.
With a mortgage placed against a property, the total money invested in real estate using a self directed IRA is usually lower. However, both the IRA owner and IRA account holder cannot have personal liability on the mortgage. This mortgage is called NonRecourse Loan. (Using a nonrecourse loan on a real estate purchase can trigger a tax, because the income will be considered UBTI or Unrelated Business Taxable Income.)
A self-directed IRA can also be used in stocks, mortgages, franchises, partnerships, precious metals, private equity and tax liens.