Roles & Responsibilities to Having Real Estate Investments

Can I use personal funds as a down payment on an investment property that I intend to purchase using my Self-directed IRA?

The short answer is no. Paying for the Earnest Money deposit with personal funds disqualifies the IRA. If the property is being purchased by the IRA, then the initial deposit must be from the IRA.

So what happens if I personally paid the EMD? Can the IRA reimburse me at the final closing?

When a client pays for the Earnest Money deposit with personal funds, that usually means that they’ve also signed the purchase contract and the vesting name of the buyer may not actually in the name of the IRA. If any of these scenarios are the situation you find yourself in, you should contact your custodian immediately.

An amendment to the purchase agreement will be required. The purchase contract and all documents related to the purchase must reflect the IRA as the buyer. The correct Vesting name must include the following:

Preferred Trust Company, LLC FBO John Doe Traditional IRA (account number).

Once the purchase agreement is amended then you will initial the amendment as “Read & Approved” and Preferred Trust Company will sign the amendment as custodian for the IRA as the buyer.

Next, you will need to complete the Investment Authorization and Direction form and indicate on the form the amount of money you personally sent to the Title Company for the EMD. You will need to provide Preferred Trust Company with a copy of the wire instructions for the Title company. Preferred Trust Company will process a payment from your IRA to the Title Company for money you personally paid for the Earnest Money. The Title Company will reimburse you the money you paid once they receive funds from Preferred Trust Company.

You are now compliant and can proceed with the purchase of the property!

All investment properties incur expenses; and these expenses must be paid directly from the IRA. Paying for any expenses personally for a property owned by your IRA (no matter the percent ownership) is a disqualifying event and will result in the distribution of the property to you in a taxable event.

So how do you ensure that the expenses are paid from the IRA? First, Preferred Trust Company requires every account to maintain a minimum cash balance equal to five (5) percent of the value of the property. This cash balance requirement ensures there is cash available in the account to pay for property taxes and insurance, property repairs and general maintenance, HOA dues, utilities, and property management fees. Second, become familiar with the Investment Expense Authorization forms. You will find a selection of payment options through our various expense forms. You can schedule recurring payments for annual expenses such as taxes and insurance that will automatically be paid from the IRA when an invoice is received. You can also schedule recurring payments for monthly expenses such as HOA dues and utilities. Making sure that all invoices for the property are sent to the address of Preferred Trust Company will ensure that no payments are missed.

STOP! What happens if I accidentally pay for an expense associated with my investment property? If an expense such as a water heater breaking over a weekend occurs, don’t panic! We understand that there are events that occur with investment properties that are considered emergencies and may not be within your control. The IRA can reimburse you the amount you paid personally but you must request the reimbursement within thirty (30) days of the payment being made. You will need to complete the Investment Expense Authorization and Direction form and submit the form with a copy of the invoice and payment receipt to our Accounting Department for processing.

Please select the link to access the Forms page of our website to review all the Expense Authorization form options.

Are they required? You are not required to hire a Property Management Company for your investment property; however, you may want to consider the advantages. Keeping all transactions involving your IRA owned property and yourself at an arm’s length distance is crucial. You do not want to engage in any transaction or do anything that could potentially disqualify your IRA. While you can collect rents on the property and forward them to Preferred Trust Company for credit to your IRA, you cannot personally deposit them in your checking or savings account for future credit to your IRA.  And while you can hire a maintenance company or repair servicers, you cannot personally do any work on the property. Not to mention, it can be difficult to manage a property if you do not live in the city where the property is located. For a nominal fee a property management company can provide the overarching management of the property and all transactions as well as vet renters and deal with city, county, and municipal ordinances. They also perform regular inspections on the property and rectify any violations. Most importantly, they collect rents! As you can see, having a property manager for your investment property is a good investment and ensures your IRA remains compliant. As always, be sure to do your due diligence before engaging in a contract with a company. They need to understand the IRA ownership component and your role as owner of the IRA. Once you select a property manager it is a good idea to provide the property manager with contact information for Preferred Trust Company and vice versa. Communication between the two entities is important.

It is important to differentiate between the fees and expenses associated with having an investment property owned by your IRA. By definition, a fee is an amount paid to a professional person or company in exchange for advice or services. You pay Preferred Trust Company an annual fee to administer your IRA. You can use personal funds to pay these annual fees by completing a credit card authorization form or by sending a check.

The Real Estate Asset Administration fee is assessed annually for each property owned by the IRA. The fee includes confirmation and remittance of property taxes, insurance, receipt of rents, processing of expenses, communication with the property manager and related municipalities, and compliance with IRS rules and regulations.

On the other hand, expenses in relation to an investment property are the costs associated with owning and maintaining the real estate. Expenses cannot be paid outside of the IRA. Even HOA “dues / fees” are considered an expense and not a “fee” associated with owning an investment property. You cannot use personal funds to make those payments.

Making regular contributions to your IRA will help to ensure there are funds available to pay fees and expenses throughout the lifetime of ownership of the property.

What is UBIT and UDFI and does it apply to the real estate investments I have in my IRA?

Unrelated Business Income Tax and Unrelated Debt Financed Income Tax. UBIT tax applies when an IRA receives ordinary income as opposed to passive income from the investments owned by the IRA. Rental income, interest income, and dividend income are the most common income received by self-directed IRAs and are exempt from UBIT. UBIT is due from real estate activities that are not passive in nature. For example, acquiring real estate with the intent to purchase, develop, and sell. The rate is 37% percent for any income over $12,500.00 and Form 990-T must be filed with the IRS.

UDFI tax applies to the gains received by an IRA that are attributable to debt. The tax applies when a nonrecourse loan is used to finance the purchase of property with an IRA. The gains apply to the rental income derived from that debt.

UBIT and UDFI rates are the same based on the income generated subject to a maximum of 37%. UBIT and UDFI is not triggered until $1,000.00 of income is generated annually.