February 9, 2009

Using an IRA to invest in real estate

Did you know you could use an IRA to buy a rental property? You actually can. An IRA can be used to invest in many things besides the standard stocks and bonds. Usually brokerage companies only offer the typical mutual funds, individual stocks, bonds and CD forms of investment for IRAs. To invest in other things like private company ownership or real estate you will have to find an IRA management company that supports such investments. These are usually referred to as 'self directed IRAs'. One company that offers such self directed IRAs that can be used to buy real estate is PENSCO Trust company. I'm sure there are many others out there. PENSCO's site discusses the basics of investing in real estate with a self directed IRA.

A few major points to keep in mind:

  • You can not buy property from a disqualified person, which generally means yourself and family members.
  • You can not guarantee a loan yourself and any loan must be in the name of the IRA. This makes getting mortgages for real estate investments difficult. Some banks may offer such loans but they require higher down payments and this is probably going to fetch higher interest.
  • If you do have leverage then you'll have to pay tax on the leveraged portion.

To keep things easy you can buy real estate outright without a loan but that would require a pretty sizable initial IRA balance in order to afford a property 100%.

Since self directed IRAs are not common there isn't a lot of information out there and not a lot of companies that offer it. It would be important to research the options extensively in advance so you fully understand how it works and you know what you're getting into.

Be aware that fees could be relatively high. PENSCO's fees seem to run $375 annually and up. With that kind of fee schedule it would only be practical if you have a relatively high amount in the account. If you have under $15,000 then the $375 would account for over 2.5% fees. But if your balance is more like $200,000 then the fees would be well under 1% which is a decent rate compared to the expenses you might pay on a mutual fund.

Using a self directed IRA to invest in real estate is a complex venture. This is not for the novice. Its probably not a good idea for most people to be frank. Note that I'm only touching on this topic briefly to give an overview of the topic. If you want to find out more then I'd recommend further research and consulting with a tax professional. A misstep with your IRA could cause you to pay taxes and fees for disqualified distributions.

If you wish to invest in real estate via your retirement savings then also consider simply using a standard brokerage IRA account and buying individual REITs, ETFs or mutual funds that invest in real estate. This is a much more simple method of investing in real estate and would be much easier to diversify.

Other resources:
IRA lender.
Invest Your IRA in Real Estate? - Kiplinger.com

Blog Widget by LinkWithin