When an investor holds real estate within a Self-Directed IRA, the temptation is to think of it like any other transaction. That means that you may want to step in and collect rent yourself. But when you have the tax advantages of an IRA working in your favor, there are certain rules that separate you from your property. That’s where it’s important to know the specific rules that determine who can collect rent within a Self-Directed Real Estate IRA. If you are thinking about doing it yourself, here is what you will need to know.
What is a Self-Directed Real Estate IRA?
First, let’s get this out of the way: there is no special account type known as a Self-Directed Real Estate IRA. This simply refers to using a Self-Directed IRA to hold real estate. One key benefit of self-directing your own account is that you get to decide what kinds of investments go into it, as long as you follow the rules. For many investors, that means using real estate investments within a retirement account. This not only lets them diversify their retirement portfolio, but also gives them the tax advantages that come with holding assets within a retirement account.
For example, it might be possible for you to hold real estate within a Self-Directed Roth IRA, Traditional IRA, or other types of retirement accounts. But this assumes that you go about things the right way. To do so, you will want to work with a Self-Directed IRA administration firm that can help you with the paperwork and administration of the account and keep you using the rules properly.
The Role of a Property Manager in a Self-Directed IRA
When you invest in real estate under the umbrella of a Self-Directed IRA, there are some rules that kick in. This is no longer a personal investment, but a retirement investment. The distinction might seem small at first, but it matters a lot to the IRS.
Why? Because you are getting tax benefits by holding an asset like real estate within a retirement account. If you receive immediate personal benefits from your assets, it means that you are not saving for retirement—you are utilizing those investments right now, which means that they are not retirement investments at all.
When handling a Self-Directed IRA, you need to keep the retirement assets separate from your personal assets. You might then wonder how you can ever collect rental income within a Self-Directed IRA under these conditions. It’s simple: you will hire a property manager who handles rent collection for you, and that rent then goes to the IRA itself.
Why Consider a Self-Directed Real Estate IRA?
Hiring a property manager is a common practice in real estate investing. It’s what property owners do when they want to keep a hands-off approach to their investments. But it’s essential in retirement investing, because you do have to keep a hands-off approach in this case. The separation between personal benefits and retirement investments is at the core of what makes it possible to enjoy tax benefits. In retirement investing, the IRS wants to make sure that you are setting these investments aside so they can grow tax-free for a specific mission: to provide you with income once you have reached retirement age.
When you use real estate—or any other asset—in a way that gives you immediate personal benefit, that negates the purpose of these retirement accounts. For that reason, you will need to work with an accountable Self-Directed IRA administration firm to make sure that you are doing things the right way.