Category Archives: Self-Directed 401(k)

Self-Directed 401(k), Self-Directed IRA & Qualified Plan Information, Self-Directed Roth IRA

Roth IRA Conversions and Re-Characterizations

Question: Dear Mr. Long, I enjoyed you video on the Lifestyles Unlimited website about IRAs.  I am new to Lifestyles here in Dallas and have a question for you if you have time. (I’m 61.)

In your video, “The top 10 things you need to know about Self-Directed IRAs”, you mentioned that a 401k can be rolled over into a Roth IRA and you pay taxes on that rollover.   The Roth IRA can then be used to make a profit from Real Estate (no debt financing).

If I understood you correctly, you then have till Oct 15th to change you mind and put the Roth IRA money back into your 401K and presumably not pay have to pay the taxes incurred from the initial rollover.   (same calendar year)

My question: Can the profit that was incurred within the Roth IRA remain in the Roth IRA while the initial rollover amount is returned to the original 401k?
If this happened, I am assuming the tax liability would be zero or minimal?

Question 2:  My company now offers a Roth 401k.  Can a Roth401k be used like a Roth IRA or must the Roth 401k be converted to the Roth IRA?

Question 3: Do you have an office in the DFW area?

Thank you for your time.

Answer: Yes, it’s true that you have until October 15 of the following year to recharacterize, or “unconvert” to use a more colloquial but not technically correct name.  If you do, then there are no tax implications for the initial conversion.

 Unfortunately, the answer to your first question is no, you cannot leave the profit in the Roth IRA.  Boy, that would be a neat trick, but it just isn’t so!  Also, when you recharacterized it would go back into a traditional IRA, not back into the 401(k).

 On your second question, assuming you mean to ask whether or not you can self-direct your Roth 401(k), the answer is no, unless it is an individual 401(k) plan like what is offered at Entrust.  The company controls what you can do as long as it is there.  When you separate from service you can always roll the Roth 401(k) into a Roth IRA and self-direct it, but you generally cannot access the funds until you leave employment or have another distributable event.  Depending on your situation, it may be an excellent idea to participate in your company’s Roth 401(k) just to build up Roth funds for when you do finally retire.

 Yes, we do have a DFW office just north of downtown Dallas.  Mr. Ryan Kimura runs that office, and I have copied him on this email.

 I’m sure you and Mr. Kimura can get together soon.  We have a “Fright Night” event coming up in Dallas which might be fun to attend.  Have a great day!

Self-Directed 401(k), Self-Directed IRA & Qualified Plan Information, Self-Directed Roth IRA, Self-Directed Traditional IRAs

Can I loan money to a company I own? And what about Rollover for Business Startup (ROBS)?

Question: A husband and wife both have a Roth IRA & husband has a 401(k). He plans to leave his corporate job & start his own business. If Roth & 401(k) funds are transferred to self-directed IRA, can husband & wife use IRA funds to loan start up money to husband’s new business, as along as they pay interest on the loan to IRA? Is this an acceptable or prohibited transaction and how should the loan be structured? If prohibited, is therea way to structure the loan so as to be an acceptable transaction?

Answer: Thank you for your inquiry.  The short answer to your question is no, neither the Roth IRAs nor your 401(k) which is rolled into an IRA can loan start up money for your new business venture.  There is a list of persons with whom the IRA is not permitted to do business, called disqualified persons.  A business owned entirely by you would be a disqualified person, and therefore the proposed loan would be a violation of Internal Revenue Code Section 4975(c)(1)(B), which says that the direct or indirect “lending of money or other extension of credit between a plan and a disqualified person” is a prohibited transaction.

I have heard of people using their 401(k) plans to start a new business by using what the IRS terms a ROBS arrangement (Rollovers for Business Startups), but the IRS clearly does not like these arrangements and believes that the way many of them operate result in a prohibited transaction.  I have attached some information in this regard.  If you do want to go down this path, be sure that whoever you choose is very familiar with the IRS position and that you feel they have adequately dealt with the issues.  Certainly there are many companies out there offering the ROBS set up.  It is fairly expensive to do, though, since it involves setting up a C corporation, having the C corporation adopt a 401(k) plan, rolling the IRA or former 401(k) into the 401(k) for the new company, and purchasing shares of the company as employer securities.  You cannot roll your Roth IRAs into the 401(k) plan, only traditional IRAs.

Finally, you should be aware that Quest IRA, Inc. cannot give you tax, legal or investment advice, and so we could never advise you on how to structure a particular investment or provide you with the forms to do so.  Good luck with your new business venture.  Have a great day!

IRS ROBS Paper

IRS ROBS Analysis

IRS ROBS Fail Paper

Self-Directed 401(k), Self-Directed IRA & Qualified Plan Information

Debt Financed Property in a Self-Directed 401(k) and UBIT

Question: I attended the seminar with you, Dyches Boddiford, and Hugh Bromma about a year ago.  I was reading the transcript of your February 4 radio interview which was very interesting.  You mentioned the need to file a 990T for your 401K with regard to a debt financed shopping center that your plan owns.  I wondered if that is correct because I thought it was unnecessary to file a 990T for a 401K, especially since there is no UDFI tax on a 401K.  Is there an advantage to filing one in such a situation?

Any insight you could give me on this would be much appreciated.  I have a debt financed property in my 401K so this is a particular topic of interest to me.

Answer:  Yes, the information about the 990T is correct in this case.  The exception you refer to requires either direct ownership by the 401(k), ownership through a special type of corporation, or ownership through a specially designed partnership.  Since most partnerships where non-retirement plans are also partners do not meet the special requirements to maintain the exemption, as mine does not, your plan may still owe UBIT and have to file a 990T.  As noted in the interview, this can still work out great, but you should always go in with your eyes open.  And yes, even if you do not owe UBIT taxes filing the 990T may be of some benefit, since you can carry forward a loss to offset future UBIT from the investment.  For the past two years the partnership my 401(k) invested in has shown a slight loss, but this year it will show a fairly decent profit, and I will use my loss carry forward from the last couple of years to offset the tax.

I have some articles I wrote on the topic, but right now I am in an airport on my way to Florida, so I can’t access them.  I will be back in the office next Wednesday.  The exemption and the restrictions on it may be found in Internal Revenue Code Section 514(c)(9).

I hope that helps some.  Have a great weekend!

H. Quincy Long’s UBIT Paper

Self-Directed 401(k), Self-Directed IRA & Qualified Plan Information, Self-Directed Roth IRA

Required Minimum Distributions for 2011

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Question: Mom received two RMD letters one for her Roth IRA and one for her Roth 401k. As these are both Roth’s isn’t she exempt from mandatory distributions? Regardless she hasn’t owned the accounts for at least 5 years.

Answer: Regarding the RMD letters, your Mom does NOT need to take an RMD from her Roth IRA.  They centralized the process of sending out RMD letters this year, and someone erroneously failed to delete the Roth IRAs from the list.  I apologize for the error made by Quest IRA, Inc.  The only time you ever have to take an RMD from a Roth IRA is if the Roth IRA is an inherited IRA.

However, if your Mom has reached age 70 ½ she DOES have to take an RMD from her Roth 401(k).  Nothing in the 401(k) regulations exempts Roth 401(k)s from the mandatory distribution requirements.  As a 5% or more owner of the company, she cannot defer distributions as she could if she was just a worker bee.  The fact that she has not met the 5 year requirement to make it a qualified distribution doesn’t change the distribution requirements.  Essentially, her contributions and the profits will come out pro rata, so that if 75% of the money in her Roth 401(k) is her contribution and 25% is profit, then the taxable portion of her distribution will be 25% until she meets the 5 year requirement.

Let me know if you have any questions. Have a great day!

 

Self-Directed 401(k), Self-Directed IRA & Qualified Plan Information, Self-Directed Roth IRA, Self-Directed Traditional IRAs

Eyes on Investors Radio Show with Special Guest H. Quincy Long

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Title:

Quincy Long: How To Get Private Real Estate Loans and How They Work

Description:

Quincy knows private lending. In depth. In this interview he explains how to get fully financed from private lenders even if you don’t have a lot of money.

I talked to Quincy about how to make private loans, how to get them, and several ways to find properties that are less common but highly effective and profitable.

We also talked about self-directed retirement accounts to buy investments which he helps people do through his Texas company Quest IRA, Inc.

Leave a comment, let us know what you think of the interview!

link to interview:

http://eyesoninvestors.com/quincy-long/

Self-Directed 401(k), Self-Directed Roth IRA, Self-Directed Traditional IRAs

Can I Invest My IRA Internationally???

Question:

I am looking at establishing either a self directed IRA or a Roth IRA. Question # 1 is: I am looking a buying into a Hong Kong private company. Is this allowed by the IRS? When there is a distribution of profits back to the 401(k) or the Roth IRA are these distributions taxable? Question #2. If I do buy a portion of the Hong Kong company with my 401(k) and later wish to convert this to a Roth IRA – can it be done? Will I just pay the 40% tac on the initial investment or what?

Answer:

To answer your first set of questions, yes, the IRS allows you to invest in a Hong Kong private company (or more properly, the IRS doesn’t restrict you from investing in a Hong Kong company), although the investment is reported to the IRS each year on IRS Form TDF 90-22.1 (Report of Foreign Bank and Financial Accounts).  When there is a distribution back to the 401(k) or IRA the distribution isn’t taxed from the U.S. side, but you would have to check with the law in Hong Kong to see if they would tax the distributions. 

To answer your second set of questions, if you have an Individual 401(k) and buy the company stock with it, at this time conversion to a Roth IRA is only possible if you have a distributable event such as termination of your employment or termination of the plan (there have been some proposals to allow conversions within a 401(k) plan but as far as I know they haven’t gotten through Congress as of this writing).  However, if your plan has the Roth 401(k) feature and you have the ability to direct the investment into that portion of your plan, then qualified distributions from the Roth 401(k) are tax free to you.  Whether your plan has a Roth 401(k) feature and whether you have made any contributions to that portion of your plan is something you will need to figure out from your plan document and/or your plan administrator.  Whenever you do a Roth conversion, the value of the assets converted is added to your taxable income for the year in which you did the conversion (except for 2010, when you can divide this “conversion income” 50% into 2011 tax year and 50% into 2012 tax year if you like).  If I understand your last question correctly, you would pay tax based on the value of the stock at the time of conversion, not the value of your initial investment.

I hope this answers your questions.  I realize that sometimes the answer to a question raises more questions, so please feel free to contact Nathan, Ryan or myself if you need more information about self-directed IRAs or Individual 401(k)s.  Thank you for your inquiry, and have a great weekend!

Self-Directed 401(k), Self-Directed Roth IRA, Self-Directed Traditional IRAs

Top Ten Things You Need to Know When Investing in Real Estate Notes in Your IRA

By H. Quincy Long

Many self-directed IRA clients, including me, invest in notes within their IRAs, mostly secured by real estate.  In my years of experience as a hard money lender personally and as a third party administrator for self-directed IRAs, I have seen some common mistakes made.  As a result, I have developed some guidelines for lending your IRA (and non-IRA) money out secured by liens on real estate.  I wish someone had shared these ground rules with me before I made some of the loans in my portfolio, although fortunately I have not been hurt too much by my mistakes.

1) Do not loan on something you wouldn’t be excited for your IRA to own if the borrower defaults.  Loaning money out of your IRA at relatively high interest rates secured by real estate is inherently more risky than leaving the money in a bank certificate of deposit, but it is also more profitable.  We routinely see yields from these loans at 12% and higher.  However, if you would be upset if the borrower defaulted and you had to take the property in foreclosure you probably should not make the loan.  With a properly secured hard money loan the worst thing that can happen is that the borrower pays you back!

2) Generally, do not advance money for repairs until the repairs are done, and then have the repairs inspected before advancing the money.  This is one of the biggest mistakes I see clients make with their IRAs.  They fund the full loan amount expecting the repairs to be done on the property, but the borrower just needs a little more money on another project and diverts some of the loan proceeds to that project.  When the loan goes bad, the IRA can end up with a property which has not had the repairs completed on it.

3) Do not loan money to someone you would feel uncomfortable foreclosing on.  William Shakespeare wrote in Hamlet, “Neither a lender nor a borrower be; For loan oft loses both itself and friend, And borrowing dulls the edge of husbandry.”  For the most part I cannot agree with this advice, because lending and borrowing money drives our economy and increases economic activity.  However, the part about a loan losing a friend is absolutely correct, in my opinion.  If foreclosing on your borrower would cause you heartache, it is best not to make the loan.  I have seen friendships destroyed over a loan gone bad.

4) If the loan goes into default, take action immediately.  No one wants to admit they have made a mistake, but delaying action can be costly.  You can always stop the foreclosure process once it has begun, but you cannot complete the process unless you start it.

5) Collect interest monthly so you will know if the borrower is getting into trouble.  Many borrowers, especially investors, would love to just pay interest at the end of the loan, but this can expose the lender to additional risk.  The purpose of collecting payments monthly is both to make sure the borrower remembers he has to do something with that property in order to avoid the pain of the payment and to let you know if the borrower is in trouble because he starts missing his payments.  Also, unless you have contracted for monthly payments, you may not be able to foreclose even if you find out through other means that the borrower is in financial trouble because the loan may not be in default.  This actually happened to some of our clients.

6) If you are unsure about how to evaluate the loan, hire a professional to help you.  Although a hallmark of the self-directed IRA is that it is “self-directed,” meaning that you make your own decisions and find your own investments, most IRA owners either do not possess sufficient knowledge or, in my case, sufficient time to properly evaluate a loan transaction.  My solution is to hire a professional to help me with the deals.  He checks out the borrower, coordinates with the title company, orders the appraisal and usually a survey, makes sure insurance is in place, and generally evaluates the loan.  Naturally he charges a fee for this service, which is passed through to the borrower, on top of any interest and fees that my retirement plan may charge.  This increases the cost of the loan, but in this case the non-Biblical version of the golden rule applies, which is “He who has the gold makes the rules.”

7) Get title insurance for the loan.  The purpose of title insurance is to shift risk away from you and to the title company.  In Texas, where my office is, the incremental cost of title insurance is very small when issued in conjunction with an owner’s title policy.  Regardless of the cost, making sure that your IRA is protected from title flaws is very important.

8) Verify that hazard and, if necessary, flood insurance is in place naming your IRA as an additional insured.  It is very easy to miss this issue when you are trying to get everything done right before a closing.  Borrowers may get insurance at the last moment and simply forget to add your IRA as an insured.  But if something goes wrong, you will want to make sure your IRA is named on the check.

9) Insist that the borrower provide you evidence of payment when property taxes and homeowners association fees become due.  The same thing would apply to hazard and flood insurance premiums, although normally you would receive notice of cancellation for non-payment of those bills.  Depending on where you live, property tax bills can increase quickly due to penalties and court costs, which reduces your equity position in the property.

10) Get a personal guarantee if lending to an entity or to an individual with some weakness.  When things are going well, you might be tempted not to insist on a personal guarantee, and indeed many borrowers will resist this.  However, as we all have discovered recently, circumstances do change, and a personal guarantee may be helpful in collecting the debt.  I collected on a note once where the property had decreased substantially in value due to vandalism and market conditions.  Instead of foreclosing, I had my lawyer send a letter explaining to the guarantor, who had a significant amount of assets, that he was personally liable on the debt and that if he was unable to satisfy the note I would pursue legal action against him and the borrower.  A week later a cashier’s check showed up satisfying the lien.

This list of suggestions is not meant to be exclusive.  Other issues you will need to understand include your lien position (personally I only invest in first lien loans), any state usury laws that might apply to the loan, and at least a general idea of what the foreclosure process is in your state in case the loan goes into default.  Always get good legal counsel to assist you with loan documentation.  Especially since the borrower traditionally pays for all expenses including legal fees, there is no reason not to have an attorney draw up loan documents.

Lending can be an excellent investment in an IRA.  It is relatively easy to do and if done correctly has a comparatively low risk.  Getting to know successful real estate entrepreneurs who borrow your IRA money may also lead to other, intangible benefits as well.

H. Quincy Long is Certified IRA Services Professional (CISP) and an attorney and is President of Quest IRA, Inc., serving clients in the State of Texas with offices in Houston and Dallas.  He may be reached by email at Quincy@QuestIRA.com .  Nothing in this article is intended as tax, legal or investment advice.