The Process of Investing a Self Directed 401(k) in Real Estate
When investing a solo 401k plan in real estate, a set of sequential steps apply as well as specific IRS rules depending on the real estate method incorporated. These steps and methods are covered in this self-directed 401k investment procedure.
Make sure to first open a self-directed solo 401k. The real estate purchase offer will need to be made in the name of the solo 401k plan. The self-employed 401k will be purchasing the property, and to comply with the regulations, ALL fees (including the escrow deposit) all fees must be paid with solo 401k funds.
Once the self-directed 401k has been adopted (i.e., the Plan documents have been signed) the property purchase offer can be made in the name of the solo 401k while the Plan is being funded. The solo 401k plan can be funded in various ways, such as by making annual contributions, by transfers from other qualified plans as well as direct rollovers from Traditional IRAs, SEP IRAs and SIMPLE IRAs. From a solo 401k funding timing perspective, the funding of the solo 401k plan can take 5 to 10 or more business days due to processing times from the various financial institutions processing the out-going transfers.
There are generally 4 (four) methods of investing a solo 401k plan in physical real estate, with each method encompassing its own set of rules.
CLICK HERE to learn more about each of the 4 (four) real estate investment method using solo 401k funds.
Here in step 4 we continue under an all cash purchase (i.e., solely solo 401k funds will be used to invest in real estate). For the various other methods of investing a solo 401k in real estate, see step 3 above.
When putting the purchase offer together, make sure to list the Solo 401k as the buyer. Remember that the Solo 401k is a separate investor/entity from you. Therefore, the solo 401k name must be listed on all the purchase documents. Here is an example of how title is generally taken:
Jane Do, Trustee of Chargers Rock Trust
To comply with the IRS solo 401k rules, make the earnest deposit using solo 401k funds not personal funds. Remember, the solo 401k is investing in the property not you or your business.
At closing, you (the trustee of the solo 401k) will approve and sign the rest of the property purchase documents and will submit them to the closing agent along with a check or wire from the solo 401k bank account for final funding.
Vesting of All Documents
- Jane Do, Trustee of Chargers Rock Trust
Also, the real estate agent/title company will ask for the 7-page solo 401k Trust Agreement. The Trust Agreement lists the name of the trustee(s).
Now that your self-directed 401k has been successfully invested in real estate, it is important to also understand the ongoing requirements. All ongoing property expenses (e.g., property taxes, repairs HOA dues, etc.) must be paid from the solo 401k bank or brokerage account. Never pay expenses with personal funds as the solo 401k prohibited transactions disallow it. Make sure the self-directed solo 401k maintains enough liquid cash to cover ongoing property expenses. Just like expenses are paid using solo 401k funds, the rental income and proceeds from the sale of the property must flow directly back to the solo 401k plan.
Loan to Finance Real Estate QUESTION:
If I am short on funds available in the solo 401k account what options do I have to finance the difference?
ANSWER:
Your solo 401k plan can obtain a non-recourse loan. See the following.
https://www.mysolo401k.net/rehab-solo-401k-owned-property-borrowed-funds/
For more real-estate frequently asked questions, VISIT HERE.
Rent to Low Income Tenant and Reporting QUESTION:
ANSWER:
The government agency should issue a 1099-MISC with the solo 401k trust name as the “Payer” and the solo 401k trust EIN would be listed as the “Payer’s TIN.” Whether the solo 401k owned property is rented to low income tenants where the majority of the rent is paid by a government agency or to other types of tenants, the funds will flow back to the solo 401k and maintain there tax deferred status or tax free status in the case of real estate owned by the Roth portion of the solo 401k. Reason being, the solo 401k is a tax sheltered retirement vehicle. What is nore the rental income does not get reported to the IRS from the solo 401k perspective since it flows back to the solo 401k. If they will issue a 1099-MISC, make sure to provide them with a completed W-9 since the solo 401k plan will own the property, you need to list the plan name on the W-9 and use the plan’s EIN. For number 4 “Exemptions” enter exempt payee code 1. This will result in them issuing the 1099 in the name of the solo 401k which means the rental income that flowed back to the solo 401k plan continues to preserve its tax-sheltered status.
