You can think of 401(k) plans and individual retirement accounts (IRAs) as long term saving accounts for your retirement years. However, unlike traditional savings accounts in a bank, these types of retirement plans offer you two big advantages. One advantage is that you can grow your money with the unique tax benefits provided them so long as you conform to regulations established by the Internal Revenue Service.
A common misconception is that you cannot make real estate investments with your IRA. This myth arose because many financial service companies do not permit this asset class. The primary reason they do not allow real estate investments is because they are not in the real estate business and would rather make financial transactions from their desk. Their reluctance has nothing to do with whether or not the IRS forbids this sort of investment.
However, in its standard form you cannot make real estate investments directly inside your 401(k) plan. So if you want to invest in real estate for purposes of increasing your retirement funds, you will have to rollover your 401k funds to a type of IRA that allows you to invest in real estate.
There are two kinds of IRAs that allow you to do this. The first is the standard self directed IRA and the second is the truly self directed IRA. The difference between the two is quite substantial. The standard self directed IRA is similar to the traditional IRA with the exception that it will allow you to invest in real estate. Conversely, the truly self directed IRA is much more flexible because you are given complete checkbook control to invest in real estate without custodial interference.
Here, then, are the 4 steps to rolling over your retirement funds so that you can start investing in real estate for your retirement years:
1. Talk to your retirement plan administrator and ask how you can move your 401(k) funds into a self directed IRA because the law does not permit you to buy real estate from your 401(k) plan.
2. Although you can borrow half of the value of your 401(k) account up to a total of $50,000, but since when can you purchase a piece of real estate for under 50,000. I am sure there is property out there you can purchase for that amount, but what if you have to fix it up. Where are you going to get the money? In addition, you cannot borrow money against an IRA. For this reason, you should only do a rollover to buy real estate if you will have enough funds in your IRA to fund your first real estate ventures.
3. Open either a standard self directed IRA or a truly self directed IRA. Personally, I would suggest that you get a truly self directed IRA because it will permit you to create an LLC and open up your own IRA business bank account. When you find a real estate deal you like, you will not have to wait for a custodian to approve your transaction, but instead you will be able to write a check or wire funds to pay for the investment. Plus, the LLC adds another layer of asset protection to your retirement funds that you are investing.
4. Now that you have a self directed IRA, you should rollover your funds from your 401(k) account. You are now able to shelter your initial proceeds from your real estate investments in this tax-deferred account. If you are looking for a tax-free option, then you should consider the Roth to make investments, but that will be covered in a future blog post.
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