Investing IRAs in Real Estate Often Leads to More Risk than Reward

There’s nothing simple about investing an IRA in real estate. But people do it because it offers an alternative to traditional retirement accounts that comes with the potential for high reward. Potential investors should be warned, however, that there can be more negatives than positives associated with these types of investments.

Minuses

1. The IRS requires a qualified trustee or custodian to administer the assets. This person will typically handle transactions and manage paperwork and reports.

2. The options for a qualified trustee or custodian are limited. So far, only about two dozen companies in the U.S. can act as custodians of self-directed IRAs.

3. You’ll need to hire a property manager. A third-party property manager will make sure you adhere to any applicable landlord-tenant laws and avoid illegal transactions. Typical commissions are equal to the first month’s rent and 6 to 10 percent of the monthly rent thereafter.

4. The rules for self-directed IRAs can be tricky to follow. Did you know something as simple as mowing the lawn of a property you own through your IRA could put you on the wrong side
of the law? It’s true: IRA owners are forbidden from engaging in certain transactions at their property.

5. The penalties are high. Running afoul of the law makes IRA owners more susceptible to losing the IRA’s tax-favored status. If that happens, taxes and penalties could be triggered.

6. It’s cash only. IRS rules require contributions to an IRA to be made in cash, not services.

Pluses

1. They offer diversity. Self-directed individual retirement accounts provide investors with options aside from the traditional stocks, bonds and mutual funds that make up most retirement plans.

2. They come with distribution options. Investors can choose to take distributions from their real-estate IRAs in kind, by having the account administrator deed a percentage of the property to them.

3. They can set you up for your later years. Done correctly, within the rules and regulations, real estate can fund your retirement. It’s high risk, but high reward.