The Process of Self-Directing IRA Funds into Income Property Real Estate

Mosca: With many Americans today living longer, healthier lives, additional income will be necessary to sustain their lives. In most instances, Social Security alone will not provide the money necessary to retire comfortably. A growing number of individuals and partnerships alike, seeking to diversify their nest eggs have discovered they can use IRA funds to buy real estate. JP can you tell us what IRA means to a self directing custodian and to a real estate investor?

Dahdah: It is fundamentally important to understand that an IRA as defined by Section 408 of the IRS code is nothing more than a trust. What the government established in the mid-70s is an opportunity to contribute to that trust throughout a lifetime.

Madsen: An IRA gives the chance to grow investments tax-free. Our clients take advantage of that. The big difference is they also are able to leverage into real estate markets for higher returns.

Mosca: What makes an IRA custodian stand out from the competition?

Dahdah: Choosing a custodian, like in real estate, is about location, location, location. Entrust has over 25 offices across the country and is the largest network of self-directed administrators in the country. For us, education and providing knowledge to our clients is a big thing.

Hanks: The great thing about the self-direction industry is that there are two types of service providers, the custodian and the facilitator. At RealSource Retirement Services, we are a facilitator and work hand-in-hand with Entrust in helping our clients throughout the whole self-direction process. Entrust Arizona is on point and able to answer all of our clients’ questions. For example, about eight months ago we had a client with a traditional IRA with about $200,000 in it. In 1996 he had $182,000. So, in 12 years he had earned about $18,000 in his IRA. He came to us a bit desperate and he wanted to see what he could do. We put him in control of his retirement and after eight months, he already realized a nine percent return on his money.

Mosca: If self-directing is so successful, how come most Americans are not aware of this option?

Madsen: The Pension Protection Act of 2007 allows people around the country to diversify their IRA funds. Unfortunately, the holders of the IRA funds are not letting owners know that the Act says you can diversify 33 percent or up to $99,000 a year for the next three years. Also, if you have any previous employer 401(k)s, those no longer have to go directly to your new employer. That’s no longer the case. You can now directly send that into a self-directed IRA.

Dahdah: If an employee is participating in an IRA, there is a ‘plan document’ that governs their investment choices. Look in the plan document for an ‘in-service withdrawal’ which allows you to roll money out of the plan. It’s all about taking control of your money, getting yourself into a position where you’re making the financial decisions, and adding some flexibility to your choices. Create a plan to take advantage of all your available options.

Mosca: The Roth IRA is very popular today. Is this an ideal vehicle for self-directing into real estate?

Dahdah: I’m the biggest cheerleader of the Roth IRA. It is the most powerful vehicle that exists today for wealth building if, single, your adjusted gross income is below $95,000, or if you are married, filing jointly, your adjusted gross income is below $150,000. Even though you’re not getting a tax benefit today, it allows money to be put aside and grow wealth without having to pay taxes on that money. If you are an employee or you’re in a business that offers a 401(k) plan, make sure you ask if they have a Roth component, and start building that tax-free portfolio.

Mosca: When can distributions on those accounts begin?

Dahdah: The taxes on these vehicles come upon distribution. In traditional accounts, after the age of 59 1/2 you can start taking out money as a distribution and pay ordinary income taxes. Before 59 1/2, there is a 10 percent penalty. The beauty of the Roth IRA is that you don’t have to worry about those taxes. If you’re in a confident position about the real estate investments you’re making throughout your lifetime and you’re not having to pay capital gains taxes, you’re not having to pay income taxes on the rents, and at the end of the day you don’t have to pay ordinary income taxes upon distribution, you’re basically in the best position possible.

Mosca: Can I invest overseas with a Roth IRA?

Dahdah: Absolutely, you can do that with the Roth IRA. You are not limited to making only domestic real estate investments. Just like you can buy stock from Germany or from Japan, you can buy real estate all over the world. Remember, an IRA is a trust. As long as you understand that an IRA equals a trust, have the basic concept; ask yourself can I trust by real estate? Yes. Can a trust get a loan? Absolutely. Can a trust lend money to other people, other entities? The answer is yes. That is why IRAs can do the exact same thing.

Hanks: What we’re able to do is set up an LLC in between the deal and the client’s self-directed IRA. The IRA will then loan money to that LLC and that LLC turns around and invests it. There are rules and each deal has its own specifics. International is definitely a possibility, and is a great way to maximize returns.

Dahdah: The IRS does not allow you to pledge your IRA as collateral for a loan. We are talking about the IRA as the borrower and it will be on the loan document. It doesn’t matter what your credit score is because the lender is normally not going to be looking at your personal individual credit history because it’s not you individually that is obtaining the loan. It is the IRA, or the retirement trust that is taking out the loan. These types of loans are non-recourse. If the IRA does not keep up with those payments, the lender will simply foreclose on the property and take it back.

Madsen: With multifamily investments, five units on up, the bank is not going to look at you as an individual. They’re going to look really hard at the property and make sure that it’s producing enough cash flow; that rents cover the debt.

Mosca: Any last comments?

Dahdah: Knowledge is power. At the end of the day you need to take the step of actually implementing that knowledge. If you’re looking for a wealth building tool, there is nothing better than a retirement account. We want people that want to know where their money is, want to have control, want to be able to touch and feel a lot of their investments, invest in their backyard if they want to, and do it without paying taxes.

Hanks: I agree with JP. It is time for people to take control of their retirements and their future There’s no reason to reinvent the wheel when somebody’s done it for you.

Madsen: The key is to diversify. For 20 years the mantra at RealSource has been ‘live where you want, invest where it makes the most sense,’ and now is a great time to buy investment real estate.