June 15, 2024

There are 11 types of IRAs; That’s right Eleven! But do you know about the self-directed IRA and what are the benefits?

Most investors mistakenly believe they have a “self-directed IRA” when in reality they have one that limits their options to a few types of investments. Within your plan, you can choose stocks, mutual funds, or bonds. And while you may have hundreds and even thousands of options for where to put your money within that account, you probably can’t invest in non-traditional retirement assets, especially if your IRA or 401(k) is rolled over to a traditional account. stock brokerage house.

So what is a true self-directed IRA? It’s an account that allows you to invest in many other options within your IRA, including:

Rental Real Estate

Set tops to resell at a profit (flip)

Private loans made at higher interest rates to other investors

discounted private notes

Tax liens or tax deeds

Private companies and startups

precious metals

Leases and Lease Options

Straight options (real estate options, not stock options)

Associations

Such investments receive the same tax treatment as more traditional IRA assets. Any taxes owed are deferred until retirement, usually at age 70½, when you should start withdrawing your savings, or possibly sooner.

This is an account for active, hands-on investors with unique knowledge of some of the asset classes on the approved list, not for a “set it and forget it” investor.

By using this type of account, it is possible to earn considerable profits with a relatively small amount of money. Here’s an example:

You have the opportunity to buy a dilapidated house from a property that you want a quick sale. You determine that the house is worth $200,000, after spending $40,000 on improvements. You contract to purchase the property for $120,000. But lacking the $160,000 to go ahead with the sale, you hire a partner who agrees to provide the full amount, as long as you handle all the details, including closing, rehabbing, and reselling the home.

In addition, you determine that you would like your share of the earnings to go into your IRA for the obvious tax benefits. You only have $10,000 inside your IRA to invest. The appropriate move under these circumstances is for his partner to purchase the property in his name or from an entity he controls, such as a limited liability company. You enter into an option agreement to purchase half ownership of this property. You pay $100 from your self-directed IRA and complete the option paperwork and submit all paperwork to your plan administrator.

This deal is now moving forward, and the property is rehabbed and ready for sale in 60 days and is selling and closing quickly for $200,000. You are worth $10,000 in sales and holding expenses, netting $30,000 on this deal in five months. The actual title holder agrees to pay you $15,000 to close on your option. This $15,000 is a return on investment from the $100 option and is deposited back into your IRA tax-deferred or tax-free (for a Roth IRA).

Your investor contributed $160,000 and received $15,000 for a five-month investment. This represents more than a 20 percent annualized return on his money, which pleases almost all investors. If he used money from his IRA for this investment, then his earnings would also be tax deferred.

rental income

Here’s another example: A New York investor became aware of the self-directed IRA and used part of his IRA to purchase four rental houses in Metro Detroit. Each house was purchased for around $55,000 and the rentals for around $900, with the cash flow returning to the IRA tax-deferred. If he sells them for a big profit a few years from now, that profit will also be tax deferred.

Beware: There are also some prohibited investments with your IRA (see IRS Publication 590-B):

No money loan to you, your spouse, or any family member in your direct lineal family chain.

Don’t invest in collectibles.

Your IRA cannot personally guarantee any loan you borrow money on. This means that any money borrowed from your IRA must be a “non-recourse” fund, meaning that only the asset can be offered as collateral and can be foreclosed on for non-payment. The creditor cannot sue the IRA for any shortfall on the loan that defaults.

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