Real Estate Investing with a Solo 401(k)

Real Estate Investing with a Solo 401(k)

Many people believe that they cannot use their 401(k) to invest in real estate or rental properties. As a result, self-employed individuals frequently assess the benefits of a 401(k) vs. real estate investments. While you cannot invest in real estate with a traditional employer-sponsored 401(k), you can invest your 401(k) in real estate when you establish a self-directed account, such as a Solo 401(k) or a Roth Solo 401(k) for real estate. When we say, “invest your 401(k) in real estate,” we are not referencing a traditional, employee-sponsored plan. In fact, you cannot use your 401(k) to invest directly in real estate. You can use your Solo 401(k) to invest in real estate, under certain conditions. To do so, you must first ensure that your plan allows this option. IRA Financial is one of the few Solo 401(k) companies that allows individuals to invest in alternative investments, including real estate. Individuals eligible for a Solo 401(k) include:

• The self-employed
• Individual who actively generate a portion of their income through self-employment activities
• Small business owner with no employees (except for themselves or a spouse)

If you are not self-employed or do not qualify for a Solo 401(k), you can still use retirement funds to invest in real estate. For more information see: Real Estate IRA

Using a Solo 401(k) to Invest in Real Estate

Real estate is the most popular alternative investment among retirement account holders. The IRS has always permitted Solo 401(k) participants to engage in virtually any type of real estate investment as long as it not prohibited or involves a disqualified person. However, after the 2008 financial crisis, many people became wary of Wall Street. They didn’t feel comfortable making traditional investments they didn’t fully understand. Individuals, particularly those in the middle class, didn’t know what was happening in Wall Street. As a result, they became skeptical about investing their retirement funds in traditional assets.

Most retirement investors are attracted to real estate because it provides a steady stream of income and has become a popular way to diversify one’s retirement portfolio. Additionally, it is a hard asset that acts as a hedge against inflation, since the value of real estate often increases as inflation increases. However, real estate is something most of us feel comfortable with – lower class, middle class, and upper class alike.

Many people worry about inflation, which is another reason they turn to real estate investments. Even if the risk of inflation isn’t real (it may or may not be), inflation can seriously hurt a retirement portfolio. The value of currency today may be worth significantly less tomorrow. Investing in alternative assets, such as real estate offers your retirement accounts a great way to diversify from the equity markets and gain access to a hard asset that can offer steady cash flow as well as asset appreciation. Hard assets (real, touchable assets) are a way to protect your retirement plan against inflation. In a way, hard assets act as a buffer against your retirement assets and the havoc of inflation.

When using a retirement account to invest in real estate, investors can take advantage of tax benefits they would not receive when using personal funds to make an investment. The beauty of using a retirement plan to purchase real estate is compounding. When the real estate investment generates high returns, rather than paying tax on those returns, tax is deferred to a later date. This allows you to use the Solo 401(k) for the purchase of real estate and watch as the real estate investment grows unhindered. With a 401(k) retirement plan, you can defer the tax until distribution, and with a Roth (after-tax), you never pay tax on the investment.

Types of Real Estate You Can Purchase with Your Solo 401(k)

Below is a partial list of domestic or foreign real estate-related investments that you can make with a Solo 401(k):

• Raw land
• Residential homes
• Commercial property
• Apartments
• Duplexes
• Condos/townhouses
• Mobile homes
• Rental Properties
• Real estate notes
• Real estate purchase options
• Tax liens certificates
• Tax deeds

Purchasing Real Estate with a Solo 401(k)

Let’s go straight to the benefits.

Real Estate Leverage with the Solo 401(k)

Here is the primary reason to use the Solo 401(k) for all types of real estate investments: the use of leverage.

We are often reminded about the advantages of owning property, whether it’s a piece of land or a multi-family real estate property. However, the purchase of real estate requires large capital and as a result, many investors choose to purchase real estate with leverage. In the case of an IRA, when you purchase real estate using leverage (non-recourse loan) this will be considered “debt-financed property” and will be subject to the Unrelated Business Taxable Income (UBTI) tax. If you use a nonrecourse loan with an IRA to purchase half of the real estate property, the income generated from the financed portion of the real estate property will be taxed at the UBTI tax rates, which can be as high as 37%.

Whereas the Solo 401(k) is not subject to the same UBTI rules as an IRA, which is the main advantage of using a Solo 401(k) to buy real estate. Internal Revenue Code Section 514(c)(9) permits a few qualified organizations to be exempt from the UBTI tax, including qualified retirement plans. Thus, the plan will be removed from the UBTI tax. This is an attractive feature among real estate investors who do not have the finances to purchase the real estate property on their own or prefer to use less of their retirement funds to make the real estate investment.

When compared to an IRA, the Solo 401(k) is more advantageous for real estate investors who want to purchase real estate property with a portion of their funds and combine that with a loan to gain the ability to purchase more real estate without paying tax on the leverage.

Establish a Solo 401(k) Retirement Plan

Before purchasing real estate, you must first establish a self-directed Solo 401(k) plan. Establishing a Solo 401(k) plan with IRA Financial is easy. Simply download our app or contact us directly. Before deciding on a Solo 401(k) custodian and opening an account, it is imperative that you assess whether the custodian is regulated. Furthermore, you should also consider what type of alternative investments you can pursue. For example, IRA Financial allows you to invest in real estate, cryptocurrencies, private companies, gold, precious metals, hard money loans, and more! While IRA Financial allows you to invest in different types of assets, not all Solo 401(k) plans offer similar options. Hence, it is important to ask what you can invest in before attempting to purchase real estate in a Solo 401(k).

Individuals interested in opening a Solo 401(k) should also consider how they plan to fund their new account. Some individuals may be eligible to roll their 401(k) into a Solo 401(k). However, this option is only available under certain conditions. Alternatively, you can fund your new account directly with your self-employment income.

How to Open a Solo 401(k) for Real Estate

Estimated Cost: 900 USD

Investing in Real Estate with a Solo 401(k) FAQs

Do I need a Solo 401(k) LLC to Invest in Real Estate?

You don’t need an LLC for your Self-Directed 401(k) to buy real estate. The Solo 401(k) itself can take title of the property — meaning the plan can own the property directly. There is no requirement to establish an LLC. However, using an LLC can provide asset protection. The Solo 401(k) owns the LLC, the LLC owns the property, and you act as the manager. As manager, you maintain full control over investments. Making a real estate investment through a Solo 401(k) LLC can be as easy as writing a check.

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What Are the Advantages of Using a Solo 401(k) LLC to Purchase Real Estate?

Before diving into the advantages, note that not all custodians allow this structure, and many charge transaction and asset valuation fees. Ask about these before selecting a provider.

Advantages include:

• Designed specifically for the self-employed or small business owner with no full-time employees.
• Make both traditional investments (like stocks) and IRS-approved alternative investments (like real estate).
• Contribute up to $69,000 per year in 2024 ($76,500 if age 50+), nearly 10x other retirement accounts.
• Use pretax or Roth (after-tax) contributions.
• Borrow up to $50,000 tax- and penalty-free with a Solo 401(k) loan.
• Invest in real estate, precious metals, tax liens, private businesses, etc.
• As trustee, you can write a check or wire funds directly.
• Generate tax-deferred or tax-free income and gains on plan investments.

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How Do I Maintain an Investment Property with a Solo 401(k)?

Key guidelines:

• Use only retirement funds for deposits, purchase, expenses, taxes, repairs.
• Do not use personal funds or funds from a “disqualified person” (like you, family members, or related entities).
• If additional funding is required, it must come from the plan or a non-disqualified person.
• Only use non-recourse financing (loan not personally guaranteed, lender’s only recourse is the property).
• Do not perform active services yourself or via a disqualified person.
• Property title should be in the name of the Solo 401(k).
• Keep detailed records of income/expenses; allocate all gains/losses to the plan.
• Do due diligence, especially for out-of-state properties.
• Be cautious of promoters and fraudulent schemes.

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Tips for Using a Solo 401(k) to Invest in Real Estate

• Follow IRS prohibited transaction rules (IRC Section 4975).
• Do not live in, personally use, or benefit from the investment.
• Use only plan or third-party funds for transactions and expenses.
• Only non-recourse loans are allowed if financing is needed.
• No services should be performed by the account holder or disqualified persons beyond basic trustee duties.
• Real estate title must be in the name of the Solo 401(k).
• Maintain records and allocate all investment results to the retirement plan.
• Avoid self-dealing (e.g., buying a property for personal use or from/to yourself or relatives).

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What Can a Self-Directed 401(k) Plan Do & Not Do for Real Estate Investors?

The Cherwenka case provides guidance:
Michael Cherwenka used a Self-Directed IRA to flip houses. He was not paid for tasks like research, management, or overseeing improvements. He only located properties, approved expenses, and worked with contractors. The court did not consider this a prohibited transaction, establishing a precedent for what activities investors can perform.

This case helps outline permissible actions such as:

• Finding and analyzing deals.
• Reviewing transaction documents.
• Hiring third-party contractors for property improvements.
• Monitoring work completion.
• Approving and documenting expense reimbursements.

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Can I Use a Roth Solo 401(k) to Invest in Real Estate?

Yes — though not all custodians allow it. IRA Financial is one custodian that does permit using Roth Solo 401(k) funds for real estate investments. Be sure to confirm this option when choosing a provider.

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Benefits of Using a Roth Solo 401(k) to Invest in Real Estate

A Roth Solo 401(k) combines a traditional Solo 401(k) with Roth IRA tax benefits:

• Contributions are made with after-tax dollars (not tax-deductible).
• Income and gains grow tax-free.
• Qualified withdrawals are tax-free (must be age 59½ and meet 5-year holding rule).
• No taxes on Roth distributions.
• Real estate profits and income can be withdrawn tax-free in retirement.

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Using retirement funds to buy real estate can offer retirement account holders a number of positive financial and tax benefits, such as a way to invest in what one knows and understands, investment diversification, inflation protection, and the ability to generate tax-deferred or tax-free (in the case of a Roth) income or gains. The list of helpful tips outlined above should provide retirement account investors looking to buy real estate with a guideline of how to keep their retirement account from running afoul of any of the IRS.

Did You Know?

There are many opportunities for investment with a Solo 401(k), including cryptocurrency and precious metals. You can also contribute as both employer and employee – the Solo 401(k) offers higher contributions than other accounts; and you can invest more money for your future! Contact IRA Financial today to learn more.