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Using a Self-Directed IRA to Invest in Real Estate

A self-directed IRA (SDIRA) is a retirement account in which an individual investor takes full control of investments within the account.

Investment options for regular IRAs are restricted to stocks, bonds, mutual funds, treasury instruments and cash (with minor exceptions). SDIRAs allow people to further diversify their portfolios by taking advantage of alternative investment categories like private company stock, oil and gas limited partnerships, precious metals, intellectual property, and—most relevant to this article—real estate. 

When considering using a SDIRA to invest in real estate, investors should first determine what type of property or properties to purchase. Common options are single family homes, multi-family properties (apartments) and commercial properties. Factors to keep in mind during the consideration period include: location, occupancy, rent growth, value appreciation, property management and cash flow. Ideally, investors will want to choose a property that is doing well in each of these categories with room for growth and further improvement over time. (For related reading, see: Buying Your First Investment Property? Top 10 Tips.)

Two Classes of Real Estate Investments

Real estate investments fall into two main classes: speculative and income-producing. For example, new developments are speculative investments, while single family rental homes, multi-family complexes and commercial properties are income-producing. Speculative deals work well with a higher-risk growth strategy, while income-producing properties are favorable for a lower-risk income strategy.

To determine the right balance between a growth strategy and an income strategy, investors should consider both their risk tolerance and their timeline for retirement. For example, those nearer to retirement may elect a lower-risk income strategy, while those with more time before retirement could choose a higher-risk growth strategy. (For related reading, see: House Your Retirement With Self-Directed Real Estate IRAs.)

When using an SDIRA to invest in real estate, it's also important to be aware of IRS regulations pertaining to real estate investments within SDIRAs. In an SDIRA, the individual investor (not the custodian) is solely responsible for complying with IRS regulations regarding their investments.

IRS Regulations Regarding Real Estate in SDIRAs

While a comprehensive list of IRS regulations for real estate investments in SDIRAs is too long to include in this article, here are the main rules to keep in mind:

  • You cannot purchase property for personal use or for use by a disqualified person.
  • Disqualified persons include: members of your family, any party that exercises discretionary authority or discretionary control in managing your IRA or exercises any authority or control in managing or disposing of its assets, any party that charges to provide investment advice with respect to your IRA or has any authority or responsibility to do so, any party that has any discretionary authority or discretionary responsibility in administering your IRA, your IRA custodian/trustee, and any entity in which you own at least a 50% share.
  • The investment must be titled in the name of your IRA, not in your personal name. 
  • Expenses must be paid from your IRA.
  • All income must be paid into your IRA.

Finally, if you decide to sell your investment, you should complete that transaction within the SDIRA. That way, there are no tax consequences until you accept distributions from the SDIRA, due to the tax-deferred nature of all IRAs.

(For related reading, see: Is Real Estate Your Retirement's Secret Weapon?)