How to buy a rental property in an IRA?

By Altay Gursel | February 22, 2021
Home / Rollover / How to buy a rental property in an IRA?

How to use Your IRA Funds to Buy Real Estate?

We’re going to talk about how to buy your first rental property inside your IRA. I know this is probably a very exciting topic for a lot of people thinking about where to invest from their LLC. This post is about the rental property and assuming that you’re going to buy a rental property.

You can buy real estate in your IRA and people have been doing it for a long time. Don’t let anyone tell you that, because you don’t get the tax benefits, you just need to buy real estate on your own name and definitely don’t put real estate in your IRA.

Real estate IRA

I totally disagree with that approach. When you decide what to do in your IRA, the question should be what I can do in my IRA to get the best rate of return. When someone says oh real estate is never supposed to be in an IRA that might not be an educated idea to have. Let’s just talk about that.

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Real estate provides a wonderful rate of return and it should be within some degree within your IRAs and 401k and tax-deferred vehicles. There’s nothing wrong with that. Let’s go through a few quick steps to get your first rental property in your IRA.

How to use IRA to buy Real Estate?

  1. Get IRA money to a self-directed custodian

    You’ve got to get IRA money to a self-directed custodian. In the Wall Street world, you would call this a stockbroker or a brokerage account. But in the IRA world, it is called a custodian.

    You may have an old 401k rolled out to the IRA. Let’s take that IRA and put it in a custodian account. I know you may put new money in an IRA, but it may not be enough to go out and buy a piece of property.

    However, if you have old IRA money and old 401k money, let’s get that money to a self-directed custodian. If you’re doing research, you’ll find a list of reliable custodians across the nation that fits your style. But these custodians will hold the money until you call one day and say I’m ready to invest. So get that money to a custodian as your step one.

  2. Decide what you are going to buy

    You’ve got to decide what to buy. Because it’ll dictate the type of vehicle you’ll use. Decide what type of real estate investment you will make. I mean it can be a single-family home, a mobile home, a commercial building, or the process of doing some rehabbing or wholesaling.

    That’ll really dictate what kind of structure you’ll invest in. Don’t think I’m just using a trust or using an LLC, and I’m done. Be careful when deciding what type of property you’re going to embark on, and be clear about that. Be clear about this investment strategy as it will dictate the next structure.

  3. Set up your LLC

    Your third step is to set up an LLC. The LLC (limited liability company) you want to set up should be in the state where you are going to purchase the real estate.

    You can’t open your LLC in Portland and buy real estate in Nevada. That’s common sense, isn’t it? You need to set up a well-crafted LLC operating under the agreement that has ERISA and IRS provisions.

    You should expect to pay more than $1,500 to get an LLC to hold real estate owned by your IRA. Your IRA will hold the LLC, and your LLC will hold your real estate. At this stage, you want to work with a company that can help guide you through the process.

    Once again, your LLC should be strictly established in the state where you are going to own the real estate. You might want to register it as a foreign one in your own state. If you live in California, that’s a typical problem.

    Because California’s going to want you to register in their state even if your LLC in Georgia. You have to register it in California and pay their darn $800 minimum tax which is really bad.

    But LLC is critical to holding the real estate and holding the checkbook to purchase the rental property.

  4. Manage your LLC to purchase real estate

    Next, I want to talk about the acquisition of real estate in LLC management. This is an important step in the management of LLC. There are going to be some limitations. To have more information, you need to go through all the details with your law firm when you set up an LLC.

  5. Fund your LLC. & Initiate the purchase

    To purchase real estate you need to have funds in your LLC account. Transfer funds to your account and buy your property.

  6. Have support of a law firm if you feel the process complicated.

    If you feel the entire process is too hard to follow get the support of a law firm. An experienced firm should help you along the process.

In short, your LLC is going to let you have a checkbook. You will be the manager of that LLC. You can be the signer of that checkbook. If your custodian says you can’t you’ve got the wrong custodian. That’s the rule of your custodian not the rule of the IRS. 

Custodians have their own internal guidelines. The law firm representing you should help you to design your LLC so that you can manage it effectively. You can buy real estate, you can control the checkbook but you cannot provide sweat equity.

You can’t go out there work on the rental property. You need to have a third-party to manage the room rental real estate. You also have to use a realtor who can’t be yourself. So you’ve got to be cautious on the acquisition but you can definitely manage that LLC.

Once you’ve got your LLC funded, you’re out there. You got the checkbook you would write an offer to go buy a piece of real estate.

Then you will start to go through the closing process. You cannot cosign on the loan or use your credit to get that loan. You have to use a non-recourse loan. But that all is still very exciting since you don’t have to buy real estate using your cash. 

You can pool your money with other people and leverage your money in a sense with other partners or you can get a non-recourse loan. Banks will loan you money usually about sixty cents on the dollar when you put 40% down and keep some part as the reserve. It is a very common practice.

Yes, it can be an exciting process of managing the LLC. Now finally let’s talk about annual maintenance.

This is a big topic. I’m just trying to get the highlights. But once you have your LLC is set up your buying real estate you may need to file a tax return annually. There’s taxes that could occur called unrelated debt-financed income. If you’re flipping properties not rentals there will be the UBIT tax or unrelated business income tax  or taxable income.

The whole process can be very low-maintenance. You may file an annual tax return an annual evaluation to give your custodian. but you shouldn’t have to stress about the whole process. People have been doing this for over 30 years. It’s very common and it’s certainly legal.

Hence, if someone said you can’t do it, it’s not that you can’t do it. It’s maybe that they can’t do it because they’re your stockbroker or their custodian rules don’t allow for it.

But get a law firm behind you. If it’s not a law firm, that’s when you get someone else to write you a comfort letter and give you guidelines so they can stand behind and help you. Set this up and then maintain it for many years to come.

Bottom line, you should get out there and invest with your ira. Invest in what you know best.

I think having a rental property in your own name and your own LLC is owned by your trust, and having a rental property in your IRA and that owns LLC and you’re out there getting a better rate of return in your IRA. Finally, don’t be afraid to have a rental property in your IRA.