Lack of Knowledge
Many people make mistakes due to a lack of understanding of the governing rules related to self-directed IRAs. This article covers two of the most common mistakes. Understanding these rules can help you grow your self-directed IRAs without fear of losing out to avoidable errors.
Violating Once-Per Year IRA-To-IRA Rollover Rule
You have two options when moving assets between your self-directed IRAs; one is a transfer and the other is a rollover. Under a transfer, the delivering IRA custodian pays the amount to the receiving IRA custodian for the benefit of your IRA. Transfers can be done for an unlimited amount of times.
Unlike a transfer, a rollover can only be done once during a 12-month period per IRA. Failure to follow this rule will result in loss of tax-deferred status, which means that the amount would be treated as ordinary income and could be subject to the 10% early distribution penalty if the distribution occurs while you are under age 59½. The amount could also be subject to a 6% excise tax if not corrected by your tax-filing deadline, plus extensions.
John decided to purchase a rental property with his self-directed IRAs and moved $100,000 from his Traditional IRA #1 to his self-directed Traditional IRA. He requested a distribution of the amount on January 30, 2013 and rolled over the amount on February 10, 2013. John found another rental property and consequently withdrew an additional $200,000 from IRA #1 on April 2, 2013 which he rolled over to his self-directed Traditional IRA on April 10, 2013.
John’s Mistake: John should have used the transfer method for at least one of those transactions, because only one distribution can be rolled over from IRA #1 during a 12-month period.
The Consequences: John must include the $200,000 as ordinary income for 2013. If he was under age 59½ on April 2, 2013, he will also owe the IRS a 10% early distribution penalty, unless an exception applies. John may also owe a 6% excise tax if he does not distribute the amount as a return of excess contribution by his 2013 tax filing deadline, plus any extensions, along with any net income attributable (NIA).
Missing 60-day Deadline
If you take an eligible rollover distribution from your self-directed IRAs or any other retirement account, the amount must be rolled over within 60-days of receipt in order for it to be excluded from your income. Failure to meet this deadline could cause the amount to become ineligible for rollover.
Tim requested a $100,000 distribution from his Traditional IRA on January 10, 2013 and received the amount a few days later. Tim deposited the amount to his regular checking account as he planned to use it as a down payment on a property he knew he could flip quickly. However, the closing was delayed on the property until March 31 (well past the 60-day deadline).
Tim’s Mistake: Tim should have used another source to cover his short term financial needs or borrow the funds from another source in order to rollover the amount within the 60-day deadline.
The Consequences: Tim must include the $100,000 in income for 2013. If he was under age 59½ on January 10, 2013, he will owe the IRS a 10% early distribution penalty on the amount, unless an exception applies. If Tim rolls over the amount after the 60-day deadline, the consequences will be the same as those that apply when someone violates the once per 12-month rule for IRA-to-IRA rollovers (explained above).
Conclusion: Use the Right Options
Many investors call our offices wanting to know about the 60 day rollover and we encourage them to use the transfer method instead whenever possible.
Using the 60 day rollover method to acquire real estate is full of danger due to the uncertainty of closings, the selling of the property, and so forth. Whatever you are going to make on the real estate transaction, you may lose in your self-directed IRAs.
American IRA, LLC does not give investment advice. We do offer guidance as to the rules and regulations related to self-directed accounts and the benefits of different account types so that our clients can take that information to their professionals to discuss the ramifications of various decisions on their individual situation.
For more information about self-directed IRAs visit our FAQ page, or to explore your options, call American IRA today at 866-7500-IRA (472). We look forward to working with you.