How I Bought Real Estate With My IRA

I’ve written before on Investor Junkie about how I worked in publishing for 25 years, retired and then started a second career as a full-time real estate investor. But how did I do it?

In the fall of 2015 I moved my retirement funds from a professionally managed IRA to a self-directed IRA (SDIRA). I liquidated a chunk of my stocks, bonds and mutual funds and instead invested in real estate. Specifically, I bought three rental properties — while retaining all the benefits of doing so with my qualified tax-deferred retirement savings.

It took a lot of strategic planning and research, but it was well worth it. I had no experience in real estate investing when I started. Now, 15 months later, I have purchased, rehabbed and rented three properties, and all of them are predictably and steadily generating monthly rental income for my retirement account.

Step One: Study Real Estate, Understand SDIRA Rules, Select Custodian

• I studied how real estate investors make money. I went to local Real Estate Investors Association (REIA) meetings and talked to investors with boots-on-the-ground experience. I got books out of the library by the armful and took notes. I browsed websites and discussion forums and found them extremely helpful — my favorites are BiggerPockets and InvestFourMore.
• I had to read a lot about SDIRAs and what exactly the rules were. For IRAs to be legit, the IRS requires that a licensed “custodian” complete all transactions on behalf of the IRA owner. These custodians will say you can’t invest in real estate using the funds they manage. But that’s not true. You can invest your IRA funds in real estate; you just can’t do it with most IRA custodians (who limit investments to stocks, bonds and mutual funds). To invest in real estate, I learned, I needed a custodian that offers “alternative investments.”
• The custodians that offered alternative investments differed greatly in fees, customer service, levels of expertise, etc. Not having experience, I didn’t know what options I would prefer! So I ventured forward and chose a company with a demonstrated knowledge base and a good reputation (online). I didn’t go cheap, but I didn’t pick the most expensive option with bells and whistles I wasn’t sure I needed.
• After transferring funds from my IRA to the SDIRA, my next step was to acquire from them a proof of funds (POF) letter. I needed this letter to show the property sellers I had cash and was serious. Tip: I learned agents like letters dated within 30 days, so I have asked for multiple letters over the last 15 months.

I’m happy with the custodian I chose, but please understand the heavy lifting was on my shoulders. Custodians that allow for alternative investments like real estate investing do not educate you or offer best practices. They simply execute your instructions and issue funds from your retirement account. In other words, do your homework!

Step Two: Select Agent, Research Market, Buy Home

• I discovered there are a lot of part-time “agents” — licensed individuals who dabble in real estate as a side hustle. There's nothing wrong with that, but I preferred a full-time, dedicated agent. I was a serious investor and wanted someone who was in the market daily, familiar with listings and ready to work hard so we may both succeed. The agent I chose was:

  • A licensed appraiser as well as an agent — a huge plus because he would spot structural problems and inspection issues right away.

  • Backed by a company that has a good reputation for sales and integrity.

  • Friendly, knowledgeable and honest.

  • Not embarrassed or resistant to making lowball offers on my behalf to get the best deal possible.

• I’d lived in my target market (Maryland) for decades but had to research market home values, projected rents, estimated holding costs, vacancy rates, average associated expenses and so on. My agent set up an MLS search that sent me listings in the zip codes I selected. I also did my own research. My three go-to sites were RedFin, Trulia and Zillow.

• The first property I made an offer on was a two-bed/two-bath condominium built in 1992. My agent prepared the offer — in the name of my custodian. When you purchase assets through an SDIRA, your IRA owns the property (not you personally). I was nervous, but I double-checked all my math and assumptions and felt confident the property was a good long-term rental property.

• Offer accepted! The contract was finalized and the closing was scheduled. Closing is unique when purchasing property through an IRA — you don’t sit in a conference room and sign paper after paper for hours. Instead, my custodian signed everything on behalf of my IRA. Of course, I had reviewed and approved everything and authorized the settlement funds to be wired out of my account ahead of time.

Step Three: Get the Property Rent-Ready

Once everything was official and I was given the keys, I walked through the condo and created a “scope of work” detailing what needed to be done. This first property was what rehabbers call a “carpet and paint.” There were no holes in the wall, the appliances worked, the roof didn’t leak and the structure was sound. After a deep cleaning, fresh carpet, fresh paint and a few upgrades, the property would stand out in the rental marketplace.

One of the most important rules with SDIRA investing is the owner of the IRA cannot do any of the rehab work themselves. I posted the jobs that needed to be done on HomeAdvisor. Immediately, contractors in the area who wanted to bid on the work contacted me. This was my system:

• I placed a lockbox on the property so contractors could stop by the property to examine the job themselves without my needing to be there (I changed the combination weekly). They then would email me price quotes.

• For each job, I reviewed three bids and did my due diligence — making sure the contractors were licensed and had positive reviews on HomeAdvisor.com.

• Next, I hired and scheduled the work. I never paid contractors upfront — which is the primary reason I don’t use Angie’s List, where you pay for work before it’s done. All contracts detailed the work to be done, the agreed-to price and the agreed-upon schedule/completion date and were signed by my custodian.

• To pay the contractors I authorized my custodian to provide a deposit when signing the contract and the remaining balance when the job was completed.

When you invest in real estate using an SDIRA, you will never pay for anything personally. Everything is signed and paid for by the custodian with your approval. The process is very simple: Complete and sign a “direction of investment” form, and the custodian sends the check wherever indicated.

Step Four: Rent the Property

The condo took me four weeks to get move-in ready. I know now that this was fast. The next step is to find tenants.

• The condo had never been rented before, so I learned I had to get a county inspection and rental license before I could legally place a tenant. They told me I needed to add a second fire alarm.

• I hired a property management company that created a legal Maryland rental lease and placed the tenant I approved after conducting background and employment checks.

• The security deposit and monthly rent were set up to be sent directly from the tenant to the property management company to my IRA custodian. Remember, as the IRA owner, I am not allowed to touch the money.

In Summary…

I have repeated this process, acquiring several more rentals in my IRA. Now I'm working with my personal funds to invest.

There are strict rules when investing through an SDIRA — and you need to understand them inside and out. The rules fall under two important things you must avoid: “prohibited transactions” and “disqualified persons.” The consequence of breaking the rules is disqualification of your entire retirement account as of Jan. 1 of the year the transaction occurred. When the retirement account is thus closed, the IRS will charge hefty penalties and of course taxes.

These severe consequences intimidated me at first, but knowledge is power and I gained confidence the more I learned. The ability to truly understand and direct my retirement funds is important to me, and in getting there I’ve landed a second career I enjoy immensely.

What do you think about this strategy? Is real estate investing something you'd like to try for yourself?

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