The Bottom Line EXTRA: Thirty-nine percent of boomers don't know about an IRA investment strategy that could save them thousands

Great info.

Interesting!

That Jennifer. I always love your articles. I always learn from them.

Interesting. I will have to keep this in mind if I do plan RE purchase. I gather this is only for an investment property; not for your residence.

That may be something to keep in mind for my participation in my brother's company. He is thinking of buying a property eventually for the business. Would this be a vehicle to allow me to put money into the business rather than lending the money to him? It would give me part ownership in the property instead of the business.

You should be able to do that, Don, but be sure to speak to a CPA and the IRS first.

Anyone who's considering this better pound it through the head of their broker, bank, etc. exactly what it's for. The coding of the distribution and the resulting contribution have to be perfect, or the IRS will terrorize you. Not many big brokerage firms do this anymore, due to the IRS's yearly valuation requirement, for which the client is responsible (and most clients flake on getting it).

It's excellent advice, Jen.

William and Dan, thanks for checking in with your positive comments!

Bob, I'm delighted to hear that you've made headway with your broker on this. Yes, there are limitations to IRA investing from the standpoint that you can't take the money as income without penalty until you turn 59 1/2 (except in cases where you'll need it for medical expenses or a first home, for instance), but if you're planning to use your investment properties as a means to retire or to pass along within your estate then IRA investing is indeed superior to the 1031 exchange. And IRA assets are protected from bankruptcy as of 2006 (in a Supreme Court decision voiced by a rare appearance by Clarence Thomas). Double bonus.

Thank you Connie for your kind words. It cheers me to know that my articles are informative and helpful to Gather.com readers.

Donald, you are right in presuming that this strategy can be used only for investment properties (or at least properties that you or your family members won't use personally until taken as a fair-market-value distribution after you turn age 59 1/2). The purpose of Individual Retirement Arrangements are to prepare accountholders for retirement, not to benefit accountholders now. So the Internal Revenue Codes prohibit personal use of IRA assets (or penalize it as an early distribution) prior to that golden age. As to your question about investing in the property where your brother would eventually house his business, this is indeed a legitimate IRA investment strategy. Unless the codes have changed recently, your siblings are the rare family members that is not a disqualified party (your mother and father and kids, however, are).

The best way to secure your IRA dollars is to provide security on property in some form, so worse case scenario, if the business goes under, you still have a piece of property you can sell to make your money back. Consequently, the situation you propose sounds ideal (though, as John mentions, you'll want to make sure you're not overlooking anything in the process by checking with your CPA, custodian and the IRS before making the move...the problem here is that even these professionals are just learning about this option, so it may be a learning experience for the both of you). The final deal would then give your IRA, not you, an ownership interest in the property. The paperwork on the deal would be faxed or mailed to your self-directed IRA custodian to be kept in your IRA file for its annual reporting requirements.

John, thanks for your informed opinion on this. I've gone back and forth with the IRS as to whether an annual valuation is actually required. In the case of property that would mean an annual appraisal, which can cost around $400 in my market. I know that IRA custodians must report the dollar amount of the total holdings they have each year, and that they must break out where those holdings are invested for the Federal Reserve. So it does make sense that an annual appraisal would be required. It's easy with stock holdings, since the dollar value at the end of the year is right there on paper. But with property there's appreciation, improvements, and so on to consider. Have you gone so far as to get a Letter of Opinion from the IRS in regards to this John? If you haven't, then I'll for sure request one. It can take several weeks/months to get a response, but it would be an important factor here. If this is a requirement, then I'd recommend cultivating a relationship with an affordable appraiser who can take care of this requirement for the life of your IRA's investment in the property at a low but fair fee to your IRA.

I don't own any property in my IRA, Jen, but I've dealt with the process countless times for clients, and the appraisal is absolutely necessary (so, yes, to your question). The brokerage and/or bank will distribute the deed without the appraisal, and the IRS will disallow the transfer-in. That's why most brokerages have stopped facilitating it.

This sounds easy on the surface, and it should be, but remember that this is the IRS you're dealing with.

Great idea about the appraiser. Make sure they're qualified, though; the IRS is picky about that.

RE: Make sure they're qualified, though; the IRS is picky about that.

Agreed. The IRS also specifies the compensation must be in line with what others are charging, to avoid the appearance of conflicts of interest.

It's so nice to talk with someone who's worked through these strategies. I do have a question though: The process you're talking about, where the brokerage and/or bank will distribute the deed without the appraisal and the IRS will disallow the transfer-in, appears to only apply to the initial sale. An appraisal is required for every property I've purchased (not only for the lender but also for my own records), so this seems like a no brainer to me. Is it your understanding that it's necessary to "distribute the deed" every year for IRS reporting purposes?

This article, and the ensuing comments, have shed light for me on the IRS's murky and often conflicting policies and regulations. I hope, Jennifer, that you sustain this dialogue with John Porter for a few more comments; I'll be bookmarking this article for future updates.

As to distributing the deed, it's just that the custodian has to send the deed to the owner and file it as a distribution (with the original investment dollar amount) to the IRS if the appraisal isn't provided. If the appraisal is provided, then everything is fine.

It works the same with any "outside investment" in a retirement account, including SEPs, pensions, profit-sharing plans, etc. The IRS keeps a laser-sharp eye on those tax-deferred assets.

Thank John and Jennifer for knowlegeable comments and advice. I will be printing this post for my records in case I do eventually consider the investment I stated.

If an appraisal will be required annually; I don't think there will be enough of a benefit. I think I would be better off making the loan and securing it with the asset; it it gets to that.

But I will certainly keep this under advisement.

Thank you for the information. Your articles are very easy for me to read, even when I am not familiar with the background.

Interesting- thanks for sharing. But I'm not sure I understand the specifics. You use the money in your IRA to buy real estate?

RE: You use the money in your IRA to buy real estate?

You've got it Kathy. You can invest in a lot of things inside your IRA in addition to the typical array of options: stocks, bonds, annuity products, mutual funds. All of the IRA investment are held by the IRA account, and receive the same tax-shelter as the stock investments you have now (where gains aren't reported on each year's tax returns and you get either a tax credit for making the cash contribution to the account to buy the investment or can take the money/gains tax free at the end).

IRA investments are also protected from bankruptcy and creditors, so there are a lot of advantages of investing inside the IRA rather than cashing out or even using your own personal savings.

Does this make better sense now Kathy?

Kathleen, if you're self-employed then you have an option to start a real estate investment company that could buy the vacation home without violating the self-dealing rules of the IRS. You'll need to form an LLC or other business entity (though the LLC is easiest and has supporting case law) and a solo 401(k), which requires some paperwork and working with professionals to make sure everything is correct. I might do a tutorial on this at a later date.

Outside of this option, however, the answer is "No." With just a self-directed IRA, you can't use the funds to buy a property from yourself, since non-cash contributions by you and personal sales of property between yourself/bloodline family members and your IRA are prohibited in the Internal Revenue Codes. (According to case law, the top option works because the transaction is between the IRA and the business entity, and not directly with you.)

Note that if you bought the home with your IRA in the first place, you couldn't use it to vacation in until after you turn 59 1/2 and take the property as a distribution. This certifies to the IRS that you're protecting the assets within the IRA for your retirement, rather than using the money to benefit yourself now.

Does that answer your question Kathleen?

Also note that when you're setting up your own 401(k) plan, where you're the only employee and the employer all in one, it's up to you -- as the employer -- how you want your 401(k) plan funds to be invested. It's also up to you as to whether you will accept rollovers from your employee IRAs into the fund.

Hence, you may be able to rollover your existing IRA into the 401(k) plan -- which enables a nice flush of cash, and allows up to $45,000 in additional tax-sheltered contributions (split between you the employee and you the employer) each year.

Does this makes sense to all of you?

Great article, Jennifer. Also, great comments from your readers.

We used part of my husband's IRA to invest in shares of a limited offering for a small company. We will have to provide yearly valuations to the custodian of his IRA, but this will be an approximate value. They hold the certificates for the shares.

Just a note - converting from one type of account to another can be tricky - some conversions are not acceptable. Check with the operational area of the company that will have custody of the new account to see what their conversion rules and processes are. I do this type of thing every day and refer to a very large conversion chart for the rules - they are not simple. And even if conversion is allowed, there are often tax implications, even on retirement accounts. Check it out first.

Jennifer - another subject that should be of great interest to folks nearing retirement is the fact that there are additional taxes for beneficiaries associated with keeping one's 401k's. It's not uncommon for people to switch positions within a number of firms during their careers. For each firm, they may have a separate 401k. Upon retirement (or even before if it makes sense) they should try to roll those over into one IRA acc't, preferably a diversified, balanced acc't that will match their own risk and growth requirements.