Using a Self-Directed IRA to Buy Real Estate

The real estate market is an attractive option for investors who desire alternative or non-traded assets in their portfolio. Additionally, paltry returns on money market and similar savings vehicles have motivated individuals to seek non-traditional methods to save for retirement. One option that has grown in popularity is utilizing a self-directed IRA to purchase real estate.

Using a Self-Direct IRA to Buy Real EstateWhat is a Self-Directed IRA?

A Self-Directed Individual Retirement Account (“SDIRA”) is an IRA that requires the account owner to make investment decisions and invest on behalf of the retirement account. IRS regulations require a qualified trustee, or custodian to hold the IRA assets on behalf of the IRA owner.

Although the statistics are not formally tracked, the Securities and Exchange Commission estimated that approximately 2 percent of all IRAs are self-directed, which equates to more than $100 billion (in real estate and other investment vehicles).

Prohibited Transactions

There is a wide selection of options in which a self-directed IRA to invest. However, the Internal Revenue Code does not allow certain investments. For example a self-directed IRA is prohibited from investing in S Corporations, life insurance contracts and collectibles.

IRAs are also precluded from “prohibited transactions,” which include “self-dealing” transactions. This restriction was established to prevent an IRA owner from using the IRA funds for his or her own personal benefit instead of the IRA. An example of a prohibited transaction is selling property you currently own to your IRA.

If the rules are violated, the entire IRA could lose its tax-deferred status.

Real estate investments

When purchasing real estate with a SDIRA, generally all income and gains generated by your IRA account would flow back into the retirement account tax-free. Instead of paying tax on the returns of a real estate investment, tax is paid at a later date (IRA withdrawals/distributions), allowing the real estate investment to grow.

Real estate related investments that are available to a SDIRA include:

  • raw land
  • residential homes
  • commercial property
  • apartments
  • real estate notes
  • tax liens
  • tax deeds

Tax benefits lost and liabilities gained

Investing in real estate through an IRA instead of individually may cause an investor to lose tax benefits. For example, if you sold appreciated property outside of an IRA, the profit is subject to a capital gains tax (currently at a preferential rate). However, the profit from real estate sold inside an IRA is ultimately taxed at the time of withdrawal at ordinary income tax rates, which will likely be higher than the capital gains rate.

A SDIRA that invests in real estate may incur additional tax liabilities. If an IRA purchased a property subject to a mortgage, it may be subject to unrelated business income tax (UBTI) on a percentage of the rental payments. For example, if you make a 25% down payment on a rental property, then 75% of your rental income is subject to the tax.

Owning real estate in an IRA allows your investment to grow on a tax-deferred basis. However, if you do not follow the rules, you could disqualify your IRA and create a taxable event. It is important to consult with your tax and financial advisors before directing IRA funds into a non-traditional investment.

We’ve got your back

If you have questions about setting up an SDIRA or its tax implications, we’re here to help. Contact Simon Filip at or 201.655.7411.