One reason self-directed IRAs are becoming more common is that individuals are using them as a way to buy their future retirement homes. This lets them have a productive investment now, and also have a place to live in once they enter retirement. Here are five steps for turning that into a reality.
1. Evaluate Your Current Self-Directed IRA. The first step is to take a look at what your self-directed IRA currently looks like. How much do you have available to invest in a piece of real estate? What would owning real estate in your account do to your overall diversification and investment mix? Evaluate not just what your account looks like today, but what you think it’s going to look like in the near future.
2. Prepare Your Purchase Plan. The next step is to prepare your plan for purchasing your future retirement home. With the information you collected in step one, decide how much you can afford. Unless you are able to pay for the property and cash, you may find that having to take out a loan can reduce some of the tax benefits you’d otherwise receive. Also be sure to plan for whatever maintenance or carrying costs the property will incur. All expenses relating to the property need to come from your self-directed IRA. Paying those expenses with personal funds is not permitted.
3. Find an Appropriate Home. Only after you have a plan drawn up is it time to go shopping for a home. Consider not only the place you think you want to retire to, but also the type of lifestyle you want to lead. Your ideal retirement home might not even be something that’s currently built – you may want to purchase land that you’ll use to build your dream retirement home on later.
4. Have a Contingency Plan. As part of your planning and home shopping, it’s always important to have a contingency plan. If your retirement plans change and you decide to live in a different part of the country, or your retirement budget changes, what will you do with the property you now hold? Will you be able to sell it or use it as an income property?
5. Don’t Use it Before You Retire. The last step is actually an ongoing one. The IRS rules on Individual Retirement Accounts clearly prohibit self-dealing. This means that an IRA owner and his or her family members may not benefit in any way from their account until the account owner retires. When it comes to retirement real estate, this means that you can’t use the property yourself, even for a single day, and even if you pay your IRA whatever amount you were charging to other renters.
If you violate this rule the IRS can potential in force you to take a distribution of this property from your account right away, which would mean you’d have to pay taxes on the fair market value as well as a 10% penalty because of the early distribution.