For clients who are experienced real estate investors with substantial retirement plan balances, making real estate investments through a self-directed IRA could make sense.
It's a more complex than investing in traditional securities, of course. But it is manageable and gives clients potential diversification benefits, as well as the profit and income opportunities that real estate can provide.
The Mechanics
Kelly Rodriques, CEO and president of PENSCO Trust Company in San Francisco is one expert who's experienced at spelling out the steps to get real estate into an IRA.
First, Rodriques says, a client has to open a self-directed IRA with a qualified custodian that works with real estate investments, such as PENSCO.
After establishing the account, the client transfers funds from an existing retirement account to the new custodian through an automated authorization process. (PENSCO, for instance, provides advisors and clients with guidance and a checklist of documents detailing steps to be taken to preserve the IRAs' status with both the Department of Labor and the IRS.)
This type of IRA is different from the usual plan, says Rodrigues, because it includes special instructions allowing the custodian to make the investment on the account owner's behalf.
In addition, if the client is borrowing funds from a lender, the custodian must work with the lender to get the financing in place, since the custodian holds the assets.
Avoiding Problems
Clients must follow the rules on permitted transactions within their account or they could encounter some very nasty taxes and penalties, experts say.
Here's the high-level guidance on prohibited transactions from IRS Publication 590, Individual Retirement Arrangements (IRAs): "Generally, a prohibited transaction is any improper use of your traditional IRA account or annuity by you, your beneficiary, or any disqualified person. Disqualified persons include your fiduciary and members of your family (spouse, ancestor, lineal descendant, and any spouse of a lineal descendant).
"The following are some examples of prohibited transactions with a traditional IRA: borrowing money from it; selling property to it; using it as security for a loan; buying property for personal use (present or future) with IRA funds," the IRS explained.
