It’s no secret that investors love real estate. Real estate is one of the most popular asset classes in the financial world—in March alone, some 7.7 million units were sold, which is astounding when you consider the median price of a unit of real estate was almost $400,000. But why do investors like real estate so much, and what does that have to do with retirement investing? To explore that topic, we first have to introduce the concept of Self-Directed Real Estate IRAs—and why investors put real estate in retirement accounts.
What is a Real Estate IRA?
A “Real Estate IRA” is a phrase that some brokerages or Self-Directed IRA administration firms use to describe holding real estate in an IRA. A Self-Directed IRA administration firm like American IRA, for example, will act as custodian on the IRA. And a custodian has to offer the ability to buy or sell real estate in order for the IRA to really be known as a true “Real Estate IRA,” or an IRA in which an investor can hold real estate assets. It’s really that simple.
A Real Estate IRA, then, is the simple act of holding properties of real estate within a retirement account. It means you use real estate within a retirement account to realize the tax benefits that come with it—for example, the cash that comes from renters goes into the IRA, and not into your personal account, which means it is not taxed as personal income. It can be taxed as personal income when you take distributions of it out of the retirement account, depending on your tax situation, but this situation still allows you to postpone these taxes until retirement age, which gives you time to grow the account.
Why Investors Like Self-Directed Real Estate IRAs
The tax benefits are the most obvious advantage to investing in Self-Directed Real Estate IRAs. But there’s more to the story. Many investors turn to Self-Directed IRAs because they believe in the power of investing in alternative asset classes—that is, asset classes that aren’t so tightly correlated with the public stock market. There’s nothing wrong with investing in stocks—however, when the stock market tumbles, a 100% stock portfolio may not feel well-diversified. Having real estate within a retirement portfolio adds some distinct advantages, including:
- Cash flow. Collecting rent in a Real Estate IRA means you can let the property generate mostly passive income. This cash flow can go directly to the IRA, generating more returns for your investment, even while you enjoy the tax protections of the IRA. But even if you don’t hold real estate in an IRA, many investors flock to real estate because it’s one of the most efficient ways to generate a yield on your capital.
- Appreciation. While renters pay money towards the cash flow, the value of the property in question can still go up, giving you the opportunity to later sell the real estate at a profit, if that’s what you want for the account. Appreciation within an IRA can also access the same benefits, much like selling stocks within a retirement account.
When you add it all up, it’s obvious why investors like Self-Directed Real Estate IRAs. But the reasons are so many, that it does take some time to explain them all. If any of these resonated with you, it may be time for you to seek out a Real Estate IRA of your own.