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Guarding Your Wealth for Seniors
Real Estate Can Be in an IRA but Basic Rules are
Critical
By Jeffrey D. Voudrie, CFP
June 16, 2006 - Did you know you can use your IRA
to purchase real estate? You can, but it’s important that you follow
some basic rules or you risk the IRS disqualifying your entire IRA! Read
on to learn more.
You will probably need to change your IRA
custodian. Most banks and brokerage firms don’t allow non-traditional
investments in their IRAs, including Fidelity, Schwab, Vanguard and T.
Rowe Price.
Other custodians specialize in serving as the
custodian for IRAs holding non-traditional investments. (You can find
many by typing in “Real Estate IRA Custodian” in your favorite internet
search engine.) The fees charged are higher and may amount to hundreds
of dollars a year to thousands of dollars a year based on the value of
the account.
In these accounts, your IRA can own apartments,
single-family homes and duplexes. Your IRA can own raw, undeveloped land
or commercial property but it cannot directly benefit you or your
relatives. You can’t rent from your IRA.
The process is involved, but straight-forward. You
open an IRA account with the new custodian and transfer funds from an
existing IRA. You can use the new custodian for your entire IRA or just
a part. I would recommend using a traditional custodian for that portion
of your IRA that uses investments like stocks, bonds, and mutual funds.
You then identify the property you want to buy and
the custodian purchases that property on behalf of your IRA. The
custodian does not provide any management of the property—that’s left up
to you.
Say your IRA buys a duplex to serve as a rental.
Even though your IRA owns it, you would still be the one responsible for
finding tenants, arranging leases, getting insurance, making repairs and
all the other things associated with being a landlord. Conversely, you
can hire a property management company to do this on behalf of your IRA.
It is extremely important that you only use IRA
funds for all expenses associated with the ownership and management of
the property, including taxes, repairs and insurance. The rents received
flow into the IRA account and that money can then be used to cover these
costs.
If you mix personal funds and IRA funds together
you risk substantial penalties that may include your entire IRA being
disqualified by the IRS. That means you would immediately have to pay
ordinary income tax on all the money in your IRA, plus other penalties
and interest. Don’t invest all of your account’s funds into real estate,
but leave a cushion to cover normal operating costs. The amount you
leave as a cushion will depend on the type of property and the expenses
associated with it.
It’s also important that you don’t borrow money
within the IRA to purchase property. Income from a debt-financed
property within an IRA is subject to unrelated business taxable income (UBTI).
Your IRA will then have to file a tax return and pay income taxes on
those ‘profits’.
Taking Required Minimum Distributions from an IRA
invested in real estate can be a problem unless you plan ahead. If you
are 70 ½ (or as you approach that age), build up an extra cash cushion
in the account to cover your RMD each year.
If all of your IRA is invested in raw land and you
don’t have enough liquid investments to cover your RMD, then you will
have to withdraw a piece of that property. You do this by deeding a
portion to you as an individual. This creates potential problems because
you have to have appraisals done to insure that the land withdrawn was
properly valued. It also involves lawyers, deeds and recording fees.
For those experienced in real estate, it makes
perfect sense to own some in their IRA. Those without experience should
think long and hard about it before they do. I suggest you consult a CPA
knowledgeable in this area prior to making your first purchase.
It’s also not worth it for small IRAs.
Diversification is still important in real estate so you will want to
own more than one piece of property. Your IRA should also have a portion
invested in traditional, more liquid investments such as stocks, bonds
and/or CDs.
If you have a specific question or would like more
information give me a call toll-free at 1-877-827-1463 or go to
www.guardingyourwealth.com. You can also reach me by email at
jeff@guardingyourwealth.com.
About Guarding Your Wealth:
“Guarding Your Wealth” is a
nationally syndicated weekly personal finance column written by Jeffrey
D. Voudrie, CFP. Mr. Voudrie is the President of Legacy Planning Group,
a private wealth management firm that employs sophisticated proprietary
strategies designed to protect and grow its clients' investments. Please
visit his website,
www.guardingyourwealth.com to read past articles under the Guarding
Your Wealth Article Archive.
Guarding Your Wealth for Seniors are
a collection of columns by Voudrie that deal with issues of particular
interest to senior citizens. Click here
for all columns.
In addition to being a nationally
syndicated columnist and Certified Financial Planning Practitioner, Mr.
Voudrie provides personal, private money management services to clients
nationwide.
Looking for an energetic expert who
is passionate about financial and wealth management? Mr. Voudrie is an
excellent speaker who will excite and inspire your audience. Mr. Voudrie
is available for a limited number of speaking engagements, television
appearances and radio talk shows. For booking information, email e-mail
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