Real Estate investors have long used mortgage financing or leverage in order to purchase properties. While some real estate investors are “cash buyers” (purchasing the property for 100% payment of property value up front in cash), some investors choose to use financing in their purchases.
When a real estate investor uses mortgage financing, she can often get a higher value property for less money down. For example, if a Solo 401k accountholder has $500,000 in assets, she could purchase 1 house worth $500,000 with 401k funds. Alternatively, the Solo 401k trust could pay $250k and get a mortgage for the other $250,000. This would allow a cash reserve for the Solo 401k trust to do any needed work or repairs on the property. It also frees up more cash for the Solo 401k trust to invest in more deals.
As rent payments come in and the property begins to cash flow, the Solo 401k trust can pay down the mortgage payment, the principal, and receive the net profits right into the Solo 401k.
However, using mortgage financing and getting a loan on a property owned by a retirement account is vastly different from a personal or business property purchase. Until about 11 years ago, the only way for a Solo 401k accountholder to get financing for a property was from a hard money lender.
That was until the non-recourse loan began to gain popularity.
You’re probably familiar with traditional real estate and mortgage financing. You identify a property you like, you go to the bank, you apply for a loan. You have to produce income stubs, credit checks and sign a personal guarantee that you’ll make the loan payments.
Retirement accounts use a different type of mortgage financing called a non-recourse loan. Non-recourse loans collateralize the property, not you. Typically, a non-recourse loan will require a down payment of 40-50% instead of 10% like a normal mortgage.
If there’s a default on the loan, the property is taken but the other assets in the Solo 401k, and assets outside the retirement account are not affected. Non-recourse lenders can be a traditional bank or private lender. The property is owned by the Solo 401k trust and there is no personal guarantee signed by you (no credit check, no income stubs).
How to Qualify for a Non-Recourse Loan
- No personal information for the trustee or participant of the Solo 401k in order to apply for and execute a non-recourse loan.
- Credit checks are not required.
- Income stubs and other asset statements are not required.
- Lenders will not review income or employment of the Solo 401k trustee.
- The non-recourse loan paperwork will list the Solo 401k tax ID number instead of the Solo 401k trustee’s social security number.
- Similarly, the non-recourse loan will not appear on a credit check for the trustee since the social security number is not used.
- The lender will base the decision on the property itself (as collateral). Often the rent rolls (cash flow) of the property are considered as part of the viability for the Solo 401k trust to repay the loan
- Because the lender has greater risk (and no risk of collecting from the Solo 401k trustee or claiming other assets in the 401k as recourse), typically a higher down payment is required (50%-60% LTV is common)
Because the non-recourse loan is a fairly niche financial instrument, not all major banks are familiar with the structure. Click here to view our page on non-recourse lending resources who are familiar with writing mortgages for Solo 401k trust accounts.
Non-recourse loans may also be obtained from private parties or third-party lenders. Keep in mind prohibited transaction rules must be followed with respect to non-recourse loans. Therefore, the Solo 401k trust cannot receive a non-recourse loan from a disqualified person (e.g. yourself as trustee, any of your businesses, family members or their associated businesses, etc).
Non-Recourse Lending Fast Facts:
- The loan is made to the Solo 401k trust, not the trustee
- Loan repayments must be made from Solo 401k trust funds, not the trustee’s personal or business bank accounts
- The Solo 401k trustee is forbidden from personally guaranteeing the loan. Instead, the non-recourse loan is secured by property itself
- Non-recourse means that in the case of a default, the lender may not seek repayment from the Solo 401k trustee/participant personally, or from remaining assets in the Solo 401k
- The total net proceeds must be deposited back into the Solo 401k (pre-tax or Roth accounts, depending on which portion of the 401k received the loan)
- The Solo 401k trustee is able to sign for the loan documents on behalf of the trust, however, the trustee’s personal information (credit score, social security number) is not included in the loan underwriting or loan paperwork
- If the Solo 401k trust purchase a property with all cash, that same property may not be refinanced at a later date (even using a non-recourse loan)
