Accounting & Finance

Real Estate Buyer Tip: How To Use Your IRA & 401(k) With Tax Benefits

It’s easier than you think. You can use IRAs and 401(k) tax-advantaged retirement saving accounts to buy and sell real estate.

Let’s get into the details and understand how we can use IRA and 401(k) for buying real estate.

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Can you invest in real estate through your IRA?

Yes, but not with just any IRA. You’ll need a special type of IRA known as a self-directed IRA. But there are certain rules you need to follow when you are buying real estate using a self-directed IRA.

Rules you need to follow

The real estate owned using your IRA must be a pure investment. You or your family members cannot use it for personal reasons whatsoever. For example, you can’t invest in a vacation rental home and use it when it’s unoccupied.
You cannot pay for the expenses of the property through your personal account; it must be paid through the IRA.
You cannot use your personal belongings/possessions in the property.
Income generated by the real estate must be paid to the self-directed IRA, and not to you.
You cannot use your self-directed IRA funds to buy property from yourself or from a family member.

Can you invest in real estate through your 401(k)?

If you have an employer-sponsored 401(k), the answer is probably no. An employer-sponsored retirement plan doesn’t allow participants to invest in properties or participate in crowdfunded real estate investments.

But you can use 401(k) to buy real estate indirectly.

If you have an active 401(k), your options for investing in real estate are limited because you are still working for the sponsoring employer.

But, if you have an old 401(k), your options for investing in real estate are much better.

You can rollover your former employer 401(k) account into self-directed IRA and use the funds to invest in real estate.

If you’re self-employed, you have yet another option

Self-employed professionals have a few other retirement plans, such as SEP-IRAs and SIMPLE IRAs. A solo 401(k), owned by a self-employed individual can be rolled over into a self-directed solo 401(k) plan. These plans are offered by the same custodians that offer self-directed IRAs.

The rules and procedures for investing in real estate using a self-directed 401(k) are the same as with an IRA. But, there is one big difference. The IRS provides a specific exemption for 401(k)s – the UBTI tax that applies to profits generated by IRA-financed real estate does not apply to solo 401(k) loans. This is a big tax benefit. So, if you are eligible for self-directed 401(k), use it to buy real estate.

Simple Steps to Invest in Real Estate Using Your IRA and 401(k)

Consult your administrator to check if your IRA is eligible for investing in real estate, and what you must do to use your funds to purchase the property.If you have a 401(k), the law forbids you from investing in real estate. But with the help of the administrator, you can find ways to move your funds from 401(k) to invest in the real estate market.
Know the regulations governing your transaction. While the IRA doesn’t allow you to borrow, you can borrow half of your 401(k) value, up to $50,000 to purchase real estate. However, if you are using funds outside 401(k), you do not have the tax benefit attached to your purchase. So, if you want to keep the taxes low, research the regulations to make the most of the tax benefits.
Open a self-directed IRA. Most IRA custodians do not allow real estate investments; if that’s the case, open your own self-directed IRA at a financial services firm that permits such investments.
Rollover your 401(k). Employer-sponsored 401(k) doesn’t allow you to invest directly in real estate. Consider rolling over your 401(k) into self-directed IRA and then use the funds to invest in real estate.
Hire a person/company to manage real estate. If you are using IRA to purchase real estate, you cannot be directly involved in managing the property. You need to hire an agency or a person to carry out maintenance and other activities such as collecting rent.
Track cash flow. If you have bought the property using your retirement account, all funds used for buying and maintaining the property should be paid from the account, and all the proceeds, such as rent, sale, etc. must be returned to the retirement account.