Real Estate and the Solo 401k

When you purchase Real Estate, a holding institution such as a custodian can create delays and red tape that can kill profitable deals before you get the profit. Instead of days or weeks of third party processing, we empower you to finalize deals with the ease of signing a check.

Go beyond publicly available REITs and access investment properties directly. You can invest your 401k funds into houses, condos, land, mortgage notes, and more! Let the gains, rents, any all profits go back into your Solo 401k without taxation. Our Unlimited® platform gives you the freedom to invest in virtually any real estate deal, whether it be a rental home, a bargain at the foreclosure auction, or a syndicated “insider” real estate development.

Real Estate has long been the darling of the self-directed investing industry.

Starting in the early 1980’s, IRA investors began using their retirement funds to invest in real estate. This opened a whole new world of investing possibilities as accountholders could purchase tangible assets instead of only being tied to the stock market.

With the advent of the IRA LLC structure, pioneered by attorney Deborah Buchanan and Jeff Nabers, accountholders were able to take their freedom a step further and hold the properties directly in an LLC they managed.

The IRA LLC structure was tested in tax court (and won!) in a landmark case in 1996, proving that retirement accountholders should be able to directly control where and how they wanted their retirement funds invested.

The birth of the Solo 401k in 2006 iterated the industry again. This time, the new retirement vehicle allowed you to self-custody the funds and assets, eliminating the need for a custodial middleman.

Self-directed retirement accountholders kept buying properties, this time diretly titled in the name of the Solo 401k trust of which they were the trustee.

This revolutionary retirement structure paved the way for cheaper setup and maintenance fees and a more direct control of the types of investments possible in the retirement account.

Keep it Passive

While flipping and wholesaling has gained traction in the real estate investment community, we don’t generally recommend it for your retirement account portfolio.

The reason is that flipping tends to be an “active deal”.

The truth is that flipping takes effort – you have to find the property, decide how much rehab it will require, have someone perform the rehab and then get the property resold.

While there’s an excellent chance for profit, the entire process can be work intensive.

If you choose to flip properties in your Solo 401k (not recommended), keep in mind those activities may be subject to Unrelated Business Income Tax. The IRS defines an active business as something done with an “intent to profit” that carries on its activity with “frequency” and “continuity” (Source).

Anyone who has flipped properties knows the above definition to be true. Once you complete your first deal, you’re off to the next one with an intent to profit, keeping up your flipping with frequency and continuity.

Purchasing assets with the intent to sell them after they appreciate is a great strategy. However, if you plan to do this with properties, the general recommendation from most attorneys is to keep your property rehab and liquidation to 1-2 properties per year maximum. If you can keep the property and receive rental income for 9+ months before selling, even better! The point here is not to appear as if you’re trying to run a business “under the table” (e.g. avoiding paying capital gains taxes). The IRS doesn’t like to lose money. If they think you should have been paying taxes but avoided doing so by keeping the asset in a tax-deferred retirement account structure, they may try to claim what they believe to be theirs.

A Note About Working On Properties

If you do decide to purchase a property using retirement funds with the intent to rehab the property and re-sell it at a profit, make sure you are hiring an unrelated third party to do the work on the property.

You (or your businesses) are not allowed to rehab any properties owned by your retirement account.

What About Managing the Properties in the Retirement Account?

While you are allowed to manage the properties owned by your Solo 401k, it is often not recommended. In order to keep yourself “arms-length”, it is generally recommend you hire a third-party property management company if possible.

If you do manage the properties owned by your retirement account, you may not take any salary or receive any compensation for the management duties.

Further, the best practice is to limit your managerial involvement to “white collar” duties (e.g. collecting rents from tenants, depositing rent checks, putting out ads to fill a vacancy). “Blue collar duties” such as turning a unit to prepare for a new tenant, performing repairs on a property, changing lightbulbs, fixing toilets, repainting walls, or putting in new carpet are forbidden as they would constitute a prohibited transaction.

How Do I Know the Solo 401k Can Compliantly Hold Real Estate?

Your Solo 401k by Nabers Group will come with a variety of documents proving the legitimacy of your 401k plan, including (but not limited to): your Adoption Agreement, Trust Agreement, Basic Plan Document, Summary Plan Description, Appointment & Acceptance of Trustee, Action by Board of Directors, In-Plan Roth Conversion notices & forms, beneficiary designation forms, Required Minimum Distribution form, IRS opinion letter, unique plan serial number, etc.

Your 401k Trust Agreement governs what the trust can and cannot do, and what power you have as the trustee.

Article IV of your Trust Agreement has a paragraph titled, “Trust Assets”.

In Section 4.2(a) it states:

The Trustee may invest the Trust Fund or any portion thereof in obligations issued or guaranteed by the United States of America or of any instrumentality thereof, or in other bonds, notes, debentures, mortgages, preferred or common stocks, options to buy or sell stocks or other securities, mutual fund shares, limited partnership interests, commodities, real estate or any interest therein, or in such other property, real or personal, as the Trustee shall determine.”

Is an LLC Necessary?

With Solo 401k, you don’t need an LLC to access any real estate investment, but you may choose to use an LLC for asset protection.

The Solo 401k, like other IRS-approved retirement accounts enjoys a certain level of “outside protection” against creditors. Retirement plans are generally safe from personal creditors and even bankruptcy proceedings.

A Solo 401k accountholder may choose to add a “Special Purpose LLC (for asset-holding only, this is not an operational business) to provide a layer of “Inside protection”.

Where outside protection protects the Solo 401k from being attacked by outside forces, an LLC can often provide inside protection from someone who might want to go after the Solo 401k from the inside.

An example of this might be a tenant trying to sue a property manager. Depending on several factors, such as the nature of the case, the strength of the tenant agreement, etc – the tenant might try to pursue other asset or funds in the Solo 401k as part of a lawsuit. If the property sits inside an LLC, owned by the Solo 401k, the other assets inside the Solo 401k may be protected as the lawsuit could “isolate” the case strictly to the assets held inside the LLC in question (as the LLC would be the owner of the property).

While some document providers are content to merely treat you as an “account”, we know you’re more than that. You’re a Self-Directed Investor and we’re here to support your success.

How Are the Properties Titled?

After you have the property identified, you’ll put in your offer using the name of your Solo 401k Trust (e.g. John Doe 401k Trust). If there’s any earnest money due, you can write the check out directly from your Solo 401k bank account. Your Solo 401k Trust will own the property, so you want to be sure to use only you Solo 401k funds to pay for any fees.

One of the great things about your Solo 401k is that you have flexibility in purchase methods. This means you can pay for the property in full using your retirement funds (if no mortgage is needed/wanted) or you can get financing for your purchase. It’s possible to get a non-recourse loan for your Solo 401k to use leverage to purchase your property. Unlike the Self-Directed IRA (SDIRA), the Solo 401k is not subject to the Unrelated Debt Financing tax (UDFI). This makes the Solo 401k the easiest retirement vehicle available to use leverage purchasing a property.

In any offer documents and at the closing table, the Solo 401k itself is the buyer. This keeps the retirement funds separate from you and keeps those funds tax-deferred. You are the trustee of your Solo 401k, so you sign the closing documents. The check presented at closing will be from your Solo 401k bank account.  You’re in total control during the entire deal.

Generally speaking, the property should be titled in the name of your 401k Trust.

If the title company you’re with with is unfamiliar with the Solo 401k structure, or unwilling to title the property in the name of the trust, it is acceptable for the property to be titled in the format of [Name of Trustee], as trustee for [Name of Trust]. In other words, if John Doe was the trustee of Doe Company 401k Trust, it would be acceptable to title the trust’s real property in the name of John Doe, as trustee for Doe Company 401k Trust.

Who Pays the Bills?

If you have any ongoing expenses, such as property taxes and/or maintenance for the property, they should be paid from your Solo 401k bank account. Remember that personal funds and retirement funds should never mix to avoid triggering prohibited transactions or a taxable event.

Similarly, rent checks should be deposited into your 401k trust bank account. The rental income from properties owned by your 401k trust is not to be used personally. Withdrawing any retirement funds for personal would be a taxable distribution.

Best Practices

Here are a few guiding best practices for purchasing real estate in your Solo 401k:

  • Don’t live in the property as this would be a prohibited transaction. You may not rent the property, even on a short-term basis
  • Your immediate family (parents, grandparents, children & grandchildren) are also prohibited from living in or renting the property, even on a short-term basis
  • Don’t perform any work on the property yourself
  • Do hire an unaffiliated third-party to perform any repairs on the property. Remember, this third party cannot be a disqualified person (e.g. your son’s construction company cannot replace the roof on a property owned by your retirement account because your son and his business(es) are disqualified from your Solo 401k)
  • Do hire an unaffiliated third-party manage the property
  • Deposit rent checks into your 401k trust bank account (not your personal or business account)
  • Pay for expenses and/or repairs from the 401k trust bank account (not your personal or business account)
  • Your Solo 401k cannot purchase a property you own personally
  • Your Solo 401k cannot sell a property to you personally, or to a business you own
  • Don’t flip properties on an ongoing basis. Buying and re-selling 1-2 properties per year is probably OK, though it is recommended you hold the property and receive rent (if possible) for 9+ months before selling
  • You cannot purchase the property with some 401k money and some personal money. No mixing of personal and retirement funds is allowed
  • It is possible to get a mortgage on a property owned by your retirement account, so long as it is a non-recourse loan where you do not sign a personal guarantee
  • Have fun! Real estate is a wonderful and potentially very lucrative investment! Enjoy!

 

Your Investment Options Are Unlimited

The Solo 401k is a dream come true for Self-Directed Investors, Entrepreneurs, Real Estate Agents and small business owners.

Our Solo 401k platform combines the strengths of both 401k and IRA accounts and solves the weaknesses:

    • You can rollover funds into your Solo 401k from virtually any other type of retirement account.
    • Your Investments can be self-directed.
    • There is no need to hire, pay, and wait for a custodian to hold your assets.
    • You get “Checkbook Access” built-in, without the need to register any LLCs.
    • Your Solo 401k is exempt from taxation on debt-leveraged real estate investments.
    • You will never have a third party deny you from investing in a legally compliant investment (which happens with custodians).
    • Your Solo 401k includes additional Unlimited® Sub-accounts for your spouse as well—Tax deferred and Roth.
    • You can borrow from your Solo 401k funds up to $50,000 tax-free for any reason.
    • Your spouse, if named as a participant, can also have unlimited rollovers received that can be self-directed into alternative investments.
    • Your annual contribution limits are the most favorable of any retirement account in existence. The current annual limit is $55,000 or $61,000 if you are age 50 or over. Incredibly, your spouse can contribute up to an additional $61,000 as well. This can make an enormous different leading to much faster wealth accumulation.
    • A Roth 401(k) sub-account is available, even if you make too much money to be allowed to contribute to a Roth IRA.
    • Within certain limitations, you can designate how much of your money you want to be designated as “Roth” and how much you want to be tax-deferred the traditional way.
    • There are no transaction fees and no asset fees, ever.
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