It is common thinking that IRA should and can only be invested in the stock market, bank CDs and mutual funds. Not many people realize that IRS allows people to hold real estate in IRA retirement funds. Even more so, investors are unaware that the Employee Retirement Income Security Act 1974 fully permits investments in real estate with Self Directed IRA. Other than investments involving disqualified persons, you can invest in any type of real estate with Self Directed IRA.
How to Invest in Real Estate Using Your Self Directed Ira
So what does investing in real estate using your Self Directed IRA involve? What are the key elements that one should consider? Here’s a detailed account of how you can go about investing your Self Directed IRA in real estate.
The process basically starts with an investor finding a viable property in which to invest in. the property could be anything including apartments, commercial property, raw land, residential homes, condos, duplexes, tax deeds, tax liens certificates, mobile homes etc. Once the purchase agreement has been drawn up and the deposit has been agreed upon, the name for the IRA put down should be that of the buyer. Moreover, the money used for deposit should come from the cash balance of the IRA account and not from a personal checking account. As the account owner, you will then sign the purchase contract documents approving that you have read and approved the transaction. The documents should then be forwarded to an IRA custodian for countersignatures. This is a legal requirement for all transactions of this type. The IRA should also countersign any amendments to the purchase contract or other documents.
Your next step is to direct your IRA custodian to release earnest money deposit funds from your IRA’s cash balance to the escrow company. IRS prohibits prospective buyers from using money in their personal checking accounts as deposits to be refunded by the IRA. Should your Self Directed IRA lack enough funds to cater for the deposit, you can turn to other financing options including non-recourse bank loans.
If you have adhered to all the above and gotten to this point, you can now work with the escrow company through the remaining steps in the process. The importance of working with the escrow company is that they always have the contacts of all the parties involved. It’s however important to note that there are states that real estate investments are not handled by title/escrow companies. Rather, the law requires that they be handled by attorneys. IRA custodians review whatever documents they have to in order to prove the feasibility for administration. The review also serves to ensure that there are no visible prohibited transactions that would occur by virtue of the purchase. The documents required for review include:
• Custodian forms.
• A proposed grant deed to be used for verification of the owner’s address as the IRA custodian.
• A preliminary title report for the property. This is used to verify that the seller is not a disqualified person, the seller is on the title and to ensure that there aren’t liens with the property.
• The final settlement statement.
• Escrow instructions from the escrow company
The title/escrow is responsible for handling recording of the grant deed and submitting its original copy to the IRA custodian.
At this point, the funds from Self Directed IRA are in escrow, you have signed all the necessary documents, the grant deed has been recorded and you’re free to do whatever you please with the property including selling, renting and leasing. If you prefer to rent or lease, you are required to appoint a property manager whose role will be to collect rental payments and forward them to IRA. If the rental payments are made to your personal checking account, they are considered as contribution from IRA and are therefore subject to penalties and taxes. Moreover, you should invoice any improvements you make on the property and they should be paid for by the IRA. All expenses should also be paid for by the IRA and you’re not allowed to use the property for personal purposes like family vacations.
The main difference between making an investment in real estate using you self Directed IRA and outside the IRA is that all the documents pertaining to purchase of property should be countersigned by the IRA custodian and that the money used for deposits should directly come from IRA. And while there’s more maintenance and legwork involved, it gives you more control and freedom compared to other types of real estate investments.