Thank you for your question: How do I buy Real Estate in an IRA?
Not all IRA's allow for the purchase of real estate. If you have an existing IRA from a Mutual Fund Company or Insurance Company, chances are that the direct purchase of real estate is not an option. You can review your plan documents to see if a direct purchase of real estate is allowed or contact your custodian and ask. If you do not have an IRA with this option, you may transfer/rollover all or part of your IRA into one that does. This process can take 4-6 weeks, so if you are planning a purchase, start the process early so that funds are available to complete the purchase when you find a good deal.
If you read the IRS Code Section 408 regarding IRA's, you will see that the code specifically excludes life insurance contracts, collectibles (wine,art) and Shares in an S Corp. Since real estate is not excluded, it is perfectly legal to buy it in an IRA that allows for it. The type of IRA that allows investment in alternative investments like real estate, notes, tax liens, precious metals etc. is called a Self Directed IRA. There is good information on Self Directed IRA's at this site and many others. Real Estate can also be purchased in a Self Directed Roth IRA or Self Directed Individual 401k plan.
The purchase of real estate in an IRA is very similar to a personal purchase, except that the real estate is titled by the IRA administrator or custodian in the name of the IRA, for example "XYZ Administration FBO the John Jones IRA". Earnest money may come from personal funds, but must be returned to you at the close of escrow. In other words, all costs related to the purchase must come from assets in the IRA. All PITI costs and the cost of repairs must come from the IRA or from new contributions to the IRA. In most cases, on a direct purchase by your IRA, you will need to send a "Buy Direction Letter" to your administrator or custodian along with some form of Investment Acknowledgement letter and Payment Authorization. The key is having funds available in the Self Directed IRA before you begin serious shopping for real estate.
The purchase can be by the IRA directly, or you can consult your legal and tax professionals to determine if the formation of an LLC to hold the real estate would make sense. Whether your intent is the cash purchase of a single property or many, you need to keep sufficient funds in the IRA for upkeep and management fees and a reserve for vacancies. You can make new contributions, up to the annual limit for your plan for this purpose.
You cannot move a piece of real estate you currently own into your IRA and you cannot buy a piece of real estate from your IRA. You cannot buy real estate from a related party (grandparents, parents, your children or spouses of any of these parties). You can take a partial distribution of an undivided interest over a period of years until 100 percent of the property has been distributed and is owned by you personally. This distribution is taxed just like any other. Required Minimum Distributions (RMD's) when you reach 701/2 years of age can be taken in the form of an undivided interest in an IRA property.
You cannot buy a property from your grandparents, parents or children or rent it to them. You cannot purchase a vacation rental and use it for two weeks personally or for one day or one minute. You cannot buy a property in your IRA and live in it. These types of transactions are prohibited and can cost you dearly for a violation if discovered. The purchase of real estate in an IRA is for the benefit of the IRA and all profits from the rental return to the IRA unless taken as a distribution, subject to taxes and penalties.
IRA holders often combine assets in different IRA's for a purchase, but a direct purchase by multiple IRA's (outside an LLC) creates the need for multiple checks to and from each participating IRA based on the percentage of ownership in each IRA. This bookeeping can be time consuming, but is possible.
You can also leverage the purchase of real estate in an IRA, using a loan from a "Non-Recourse" lender or private funds from an Asset Based (hard money) Lender. Typically either type of lender will require a low "Loan to Value" or LTV from 50-65%. Asset Based Lenders have much more latitude as to terms and conditions for a loan, but may charge much higher rates, points and fees, subject to the usury laws of your state. Obviously if the rate of your loan is higher, the purchase price will need to be lower in order to generate an acceptable rate of return.
When repairs or rehab of a property is necessary after the purchase, you must contract out the work. You cannot do it or have related parties do it for you. All payment for the rehab or repairs must come from the IRA and the process for payment of these expenses from the IRA vary by the type of Self Directed IRA you select.
Fee structures for different types of IRA's vary depending on the provider. Some have small initial fees around $50 and annual fees based on the number of assets or value of assets held or administered, others have a high $2500-$4500 initial cost with recurring annual costs for custodial and LLC fees. You should strongly consider working with a regulated service provider and do your due diligence and research thoroughly, check out each provider through the BBB and Google them for complaints. Check the Ripoff reports for any incidents.
In the current market, there are excellent opportunities for higher than average return and appreciation over time. Evaluate each investment carefully with your accounting an legal professionals to insure the best results. Please feel free to post any other questions that you have on the forum.
Happy Investing!