For years, mortgage lenders and representatives in other bank services have said they are in the lending business and not the real estate business. That’s probably the best explanation why lenders have been skittish about managing Individual Retirement Accounts that feature self-directed real estate purchases.

And, the demand is increasing. Retirees and aging baby boomers, well aware of the long-term appreciation of real estate, have begun to seek real estate IRAs.

“It’s a simple case of people selling IRAs not dealing in real estate,” said investment advisor Jeff Moormeier, president of Quantum Advisors. “What is needed is people who specialize in real estate and deal in it everyday – our local Realtors – to understand the self-direct IRA process. It’s a huge market that is just starting to emerge.”

Consumers can invest self-directed IRA money in a wide range of investments, including stocks, bonds, mutual funds, money market funds, saving certificates, U.S. Treasury securities, promissory notes secured by mortgages or deeds of trust, limited partnerships and real estate. This includes single-family homes, timber parcels, gorgeous getaway condos and office properties. And, IRA funds can be the answer for an investor who sees a bargain property and is confident it will appreciate, yet has no other available cash to purchase it.

Self-directed IRAs are not only relatively easy to establish but they are also not subject to some of the rules that apply to employee-sponsored qualified plans that are enforced by the Department of Labor. The bank, as account holder, has an obligation of investigating each investment to be considered. This personal due diligence is a substitute for the rules that govern some employee-sponsored qualified plans.

To prepare for your real estate IRA, designate the amount of your retirement funds that you wish to use in the property deal and open a new IRA account with an independent administrator. The best place to start is an independent community bank. However, many banks will not service real estate IRAs (some will say “never heard of it”) because it must act as owner. That means the bank must pay the taxes and collect servicing fees, which is paperwork that many lenders don’t want or need.

Community banks, however, will offer this trust account service for existing customers, especially if the bank can easily see there’s plenty value in the purchase and a great potential for appreciation. And remember, because there are no limits on the number of IRA accounts a taxpayer may have, you will not be restricted to just one purchase.

(For companies specializing in real estate IRAs, visit Entrust Administration; Mid Ohio Securities or Oarlock Investment Services).

The guidelines covering real estate IRAs are stringent. If you break one of these rules, you could jeopardize your tax-free status on your account.

  • The land or house must be treated like any other investment.

  • All rental profits must be returned to the trustee.

  • You cannot manage the property. But your trustee can hire a third party – a real estate broker, or local manager – to collect rents and maintain or improve the property.

  • The house or property (or proceeds from its sale) must remain in the trust until distribution at retirement. If trustee is instructed to sell the property, funds can be transferred to another account for reinvestment.

You cannot use IRA money to buy your own residence or any other property in which you live. It has to be investment property. But when you retire, you can direct your IRA to turn it over to you as a distribution at the current market value.

The challenge with real estate IRAs has been lack of funds to make a meaningful purchase. Typically, real estate IRAs have been purchased with cash and the trust then holds the property free and clear. One way to crack a huge nut is to get several investors to buy shares in one property or obtain a “non-recourse loan” from a lender.

Next week: Middle-aged couple use IRA funds to tie-up lake property.

Tom Kelly’s new book, “How a Second Home Can Be Your Best Investment,” (McGraw-Hill) was written with John Tuccillo, former chief economist for the National Association of Realtors, and is available in local bookstores.


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