How a Change of Career Can Impact Your Self-Directed IRA

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The process of building up a retirement nest egg doesn’t occur in a vacuum. You can come up with a savings plan and investment plan, but if the other financial elements of your life undergo significant changes, you might have to adjust those plans. One thing that can impact your self-directed IRA in several important ways is changing your job or career.

New Income Levels

As you are likely already aware, your ability to contribute to a traditional self-directed IRA or a Roth self-directed will depend on your modified adjusted gross income, as well as whether you’re participating in an employer-sponsored retirement plan such as a 401(k).

For 2021, for example, if you’re a single taxpayer and you’re covered by a retirement plan at work, you can only deduct the full amount of any contributions you make to a traditional self-directed IRA if your modified gross income is $66,000 or less. With respect to a Roth self-directed IRA it is irrelevant whether or not you participate in an employer-sponsored retirement plan, but you can only make the maximum contribution to your Roth account if your modified adjusted gross income is less than $125,000.

Clearly there are several moving parts here, but the bottom line is that whenever you switch to a new career or job, the optimal contribution strategy you used in past years may not be the best one in your new position. You may find that you’re much better off making contributions to a traditional account than a Roth account, or vice versa. (And some individuals maintain both Roth and traditional IRAs throughout their saving years for just this reason.)

Ability to Rollover Your 401(k) Account

Whenever you change jobs, you have the ability to roll over your account balance to your new 401(k) account at your new employer (assuming that your new employer offers such a plan). That has certainly been a common approach among many individuals who find themselves moving to a new job or new career.

But that change in job or career gives an opportunity to rollover the balance that’s in your 401(k) account into your self-directed IRA. Not only will this give you the opportunity to reduce your administrative burden by having fewer accounts to manage, but you’ll also have a larger pool of capital that you can use to make some of the less common retirement investments that you can only do with a self-directed IRA.

It’s true that you can generally leave your 401(k) account with your old employer, but if you choose that path you won’t be able to make new contributions to your account, and you’ll be stuck with whatever limited investment options that particular plan happens to offer.

Make sure that you structure this as a direct rollover, not as a distribution and contribution of funds. The negative tax implications of taking a distribution from your 401(k) could be significant.

Using Your Self-Directed IRA to Invest in Illiquid Assets

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When most investors think of investments they tend to focus on assets and asset classes that are relatively liquid. We’re talking about investments that you can trade in and out of relatively easily and at relatively low cost – things like stocks, mutual funds, banks CDs and the like. Liquidity means that your money is always available if you have an emergency or other pressing expense. (While it’s true that you may have to forfeit some of the interest you earned in order to liquidate a bank CD before maturation, the money is still there for you to use.)

For this reason, there’s sometimes a tendency to avoid investments that are illiquid. These investments include assets like real estate and investments in private companies. If you ever need to sell these investments, you might find that it takes a bit of time to actually “cash out.” Some investors are reluctant to have their funds tied up in this way.

Fortunately this type of illiquidity is perfectly consistent with the long-term investment timeframe of the self-directed IRA. Withdrawing money from a self-directed IRA before retirement generally incurs penalties (and in the case of a traditional account, taxes as well), so account holders are generally more comfortable with holding illiquid investments because they wouldn’t easily be able to use the underlying funds outside of the account anyway.

Real Estate. Real estate is a popular illiquid investment to hold in a self-directed IRA. Given the costs that are generally imposed on both the sellers and the buyers of any real estate transaction, most real estate investors tend to have a medium-term to long-term outlook, and rightly consider these investments to be illiquid.

Private Mortgages. Owning a piece of property outright is not the only way to invest in real estate. With a self-directed IRA you can lend money to others to enable them to purchase real estate. Many investors find that they can generate healthy returns by becoming active in lending markets that their local banks and mortgage companies don’t participate in.

This might mean commercial lending, or lending to first-time or high-risk lenders that may find difficulty in obtaining financing through traditional means. As you might expect, with higher risk comes a higher interest rate that you can charge.

Remember that as the originator of the private mortgage, you have to be prepared to carry the note to maturity. While a borrower can always choose to pay down their mortgage early, there’s no way for the lender to force early repayment. It’s possible to sell your mortgage note to another investor, but this secondary market is probably quite thin and potentially expensive to take advantage of.

Private Equity. By the same token, private equity investments are also highly illiquid, and therefore are well-suited for self-directed IRAs. It’s important to understand that the investment documents themselves may prohibit transferring the interest to third parties, so these may be the least liquid of any of the investment types we’ve discussed.

If you find an investment opportunity that’s going to tie up your money for a number of years, consider participating in it within your self-directed IRA.

Finding a Property Manager for Your Self-Directed IRA Real Estate Portfolio

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property managerThe potential upside and cash flow possibilities of investment real estate make it a highly attractive option for retirement savers who have self-directed IRAs. Unfortunately, some investors may be somewhat reluctant to invest in real estate because of the higher level of attention that particular asset class demands.

Unlike equity and debt investments, investing in real estate involves a physical asset that the owner is responsible for maintaining, promoting and safeguarding. The most common solution to these issues is for real estate investors to retain the services of a property manager. Here are some options for finding the right manager for your self-directed IRA real estate portfolio.

Hire an Individual. If your real estate portfolio is relatively small, you might be able to hire someone you already know to manage the property. Sometimes a local handyman can be all the assistance you need to manage a single property. If you choose an individual manager, then be sure that person carries an appropriate type and amount of liability coverage.

Hire a Property Management Service. If you own multiple properties, or are looking for a higher level of service, then you should look to hire a professional property management service. As you might expect, the property management industry is fairly well developed. This means that for practically any area of the country you’ll be able to find a service that can manage your real estate holdings. Make sure to understand the services that are available, as well as the fees that you will be responsible for.

It’s worth noting that a professional property manager may also be able to provide you with valuable assistance if you ever find yourself in a situation where your tenant is not complying with the terms of their lease. A manager that has experience with eviction or similar proceedings can be invaluable.

Understand What You’re Looking For. Before you start trying to find a property manager for your real estate investments, you should evaluate the types of services you need. The first step is likely to be making a list of all the maintenance and upkeep obligations that you are responsible for as the property owner. For example, if your rental property is a condominium, or a single-family home that’s subject to homeowners association (HOA) rules, then you need to be confident that your property manager will be able to meet all of those obligations.

If you own a multi-family home or apartment building, there may be some local or state regulations that you also need to satisfy. If you’re not familiar with these duties, an experienced property manager can help you bridge the gap in your expertise.

Finally, there’s one last option to consider – managing your real estate investments yourself. You won’t be able to pay yourself any compensation from your self-directed IRA (whereas fees can be paid to a third party property manager), but you might find that you have fewer worries about your investments knowing exactly what’s happening with them.

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