Self-Directed 401k Real Estate Questions

QUESTION: I have read that real estate must be at “arm’s length”.  Can you clarify on that?   My understanding was that I could not manage or repair the properties that I would buy under the Self-Directed 401k. I would see management and repair expenses as being potentially larger than the tax benefits. My wife has a 401k from a previous employer that we are considering closing and moving into Self-Directed 401k real estate if it is possible.

Any help would be appreciated.



ANSWER: Yes the transfer/rollover rules will allow your spouse to open Solo 401k and transfer her former employer 401k to it. For a full list of retirement account types that may be transferred to a Self-Directed 401k visit Consolidating Retirement Plans Using a Solo 401k Plan.

ANSWER: While you cannot repair properties owned by your Self-Directed 401k because as trustee/participant of the plan, you are a disqualified person, the fact is that certain relatives can manage and perform the real-estate property repairs. You can also rent Self-Directed real-estate property to relatives as long as it benefits the Self-Directed 401k (a/k/a Solo 401k, Individual 401k, Solo K, etc.), presumably resulting in reliable tenants for your Self-Directed 401k while helping out your relatives. What’s more, you can co-invest your Self-Directed 401k with those relatives and buy real estate that generates healthy returns for everyone.

When your Self-Directed 401k co-invests with a non-disqualified person, the investment is perfectly allowable. Three parts make-up a Self-Directed 401k prohibited transaction, and all three have to be met in order for the transaction to be deemed prohibited.

 The three parts that make-up a Self-Directed 401k prohibited transaction are:

  1. First, the transaction must involve your Self-Directed 401k.
  2. Second, the transaction must involve a disqualified person.
  3. Third, there must be a presence of a transaction between a disqualified person and the Self-Directed 401k plan.

Without the presence of all three, you do not have a Self-Directed 401k prohibited transaction.

Which individuals are disqualified from making transactions with your Self-Directed 401k?

Internal Revenue Code Section 4975, paragraph ( c ) (1) states that you cannot make Self-Directed 401k transactions with:

  • Your spouse,
  • Ancestors,
  • Lineal descendants
  • Spouses of lineal descendants,
  • Anyone involved in the administration of the Self-Directed 401k plan (investment advisors, 401k providers, etc.)

With whom can your Self-Directed 401k make transactions with?

The following can manage and repair your Self-Directed 4014k owned properties because they are not considered Self-Directed 401k disqualified parties:

  • Your brothers and sisters,
  • Your spouse’s brothers and sisters,
  • Your spouse’s parents,
  • Your spouse’s grandparents,
  • Your grandparent’s spouse (if not your natural grandparent),
  • Your step children, your spouse’s stepchildren,
  • Your aunts and uncles, and
  • Your cousins

For a full a list comparison of disqualified vs. non-disqualified parties, visit Solo 401k Prohibited Transactions.

Lastly, buying real estate outside tax-sheltered accounts like a Self-Directed 401k might make more sense, especially if you are looking to take deductions, which is not afforded to a Self-Directed 401k or IRA. However, the benefit of using a tax-sheltered account such as Self-Directed 401k to invest in real estate has its benefits because the funds grow tax-deferred, and, in the case where 401k Roth funds are used, the real estate investment gains are tax free, whereas gains from real estate are taxed at capital gain rates when purchased outside a tax-sheltered account.

About Mark Nolan

Each day I speak with energetic entrepreneurs looking to take the plunge into a new venture and small business owners eager to take control of their retirement savings. I am passionate about helping others find their financial independence. Having worked for over 20 years with some of the top retirement account custodian and insurance companies I have a deep and extensive knowledge of the complexities of self-directed 401ks and IRAs as well as retirement plan regulations. Learn more about Mark Nolan and My Solo 401k Financial >>