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Using a Roth Solo 401k for Real Estate Investing

Roth Solo 401(k) for real estate

How to Buy Real Estate with a Roth 401k

You can use the Roth Solo 401k for real estate as well as other alternative investments. As an IRA investor, it’s wise to invest in alternative assets, such as real estate. This offers retirement portfolio diversity. When you diversify your retirement investments, you can mitigate loss.

Using a 401(k) to invest in real estate may come with a few challenges. Traditional, employee-sponsored 401(k) plans do not offer alternative asset investments, like real-estate. There are a few avenues you can take to use your 401(k) to invest in real estate, such as:

1. Loan

You can take out a loan, but your plan must allow loans to be distributed.

2. Hardship Distribution

You can use your 401(k) to invest in real estate through a hardship withdrawal from your plan. However, this differs from a loan. Because it’s a distribution, you cannot repay it, therefore it reduces your retirement savings. Additionally, if you take out a hardship distribution and you’re under 50 1/2, you will receive a penalty.

Self-Directed Plan for Real Estate – The Smart Choice

Rather than using a 401(k) plan, it’s better to use a Self-directed retirement vehicle, such as a Solo 401k. For more tax benefits, use a Roth Solo 401k for real estate or other alternative asset investments. Federal and state income tax rates may increase, so it’s important to generate tax-free returns from your retirement investments when you retire.

With IRA Financial Group’s Roth Solo 401k plan you can make almost any investment tax-free, including:

Once you hit 59 1/2 you will be able to live off your Roth 401(k) assets without ever paying tax.

All you have to do is generate a modest rate of return on your real estate investments and start making Roth 401(k) contributions in your 40s. When you reach 59 1/2 you can use income and gains from your Roth Solo 401k plan tax-free and penalty-free. However, your Roth Solo 401k must be open for five or more years.

Advantages of Buying Real Estate with a Roth Solo 401k

Power of Tax-Free Investing: One of the main attractions to the self-directed Roth Solo 401k for real estate is based on the fact that qualified distributions of Roth earnings are tax-free.

However, you must meet certain conditions and the distribution has to be qualified. Roth Solo 401k plan participants will never pay tax on Roth distributions. When you contribute to a Roth Solo 401(k) plan, income and gains you generate will be tax and penalty-free. This is among the main advantages of a Roth Solo 401(k).

Unlike with a pre-tax Solo 401(k) plan, contributions to a Roth Solo 401(k) are not tax deductible. Take a look at the following examples to better understand the power of tax-free investing.

Joe, the Self-Employed Consultant 

Roth Solo 401(k) for real estate

Joe is a self-employed consultant. He began funding a Roth Solo 401k plan with $3,000 per year at age 20. He continues this until he reaches age 65. Now at 65, Joe has $2.5 million at retirement. However, he must have earned the long-run annual compound growth rate in stocks. This was 9.88 percent from 1926-2011.

Mary, the Self-Employed Real Estate Agent

Mary is a self-employed, 30 year old real estate agent. At 30, she begins funding a Roth Solo 401k for real estate with $8,000. She contributes this amount until she reaches 70. During that time, she was able to earn an 8% rate of return. At 70, Mary has a shocking $2,238,248 tax-free at retirement. She can live off this money or pass it to her husband or children tax-free.

It may be difficult to comprehend that putting away just a few thousand dollars a year in a Roth Solo 401k plan can leave you with millions of dollars tax-free. Yet it’s as simple as making annual contributions to your Roth Solo 401(k) Plan, then generating tax-free returns from real estate or other investments with your Solo 401(k) plan.

High Roth After-Tax Contributions

A Roth Solo 401k combines features of the traditional 401(k) with those of the Roth IRA. Like a Solo 401k Plan, the Roth Solo 401k) Plan is perfect for self-employed individuals or small business owners with no employees.

The Roth Solo 401k Plan contains the same advantages of a Solo 401k Plan. However, as with a Roth IRA, contributions are made with after-tax dollars. While you don’t get an upfront tax-deduction, the Roth 401(k) account grows tax-free, and withdrawals taken during retirement aren’t subject to income tax if you’re 59 1/2. Additionally, you must have the account open for five or more years.

2019 Contributions

For the 2019 taxable year, an individual under the age of 50 can make an after-tax Roth Solo 401k plan contribution of up to $19,000. Whereas, an individual over the age of 50 can make Roth Solo 401k plan contributions of up to $25,000 for the 2019 taxable year.

As for the employer profit sharing contributions, the employer may make contributions equal to 25% of the plan participant’s W-2 or self-employment income amount. This is up to $56,000 ($62,000 for individuals over the age of 50), including any employee deferrals made by the employee during the year.

The employer profit sharing contributions must be made in pre-tax. However, as of 2013, those employer contributions can be converted immediately to Roth if the solo 401 (k) plan allows for in-plan Roth conversions.

You must pay a tax on the Roth conversion amount, but still be able to make Roth contributions of up to $56,000 for the 2019 taxable year. Again, $62,000 if you’re over the age of 50. This is almost 10 Times the amount of an IRA (Individual Retirement Account).

Invest in What You Know & Understand

Many people believe that they need to invest their retirement funds in bank CDs, the stock market or mutual funds. Very few investors know that the IRS (Internal Revenue Service) allows them to make alternative investments with their retirement funds.

Real estate is one example of an alternative asset. Real estate investments with a Solo 401(k) are fully allowable by the IRS.

With a Roth 401(k) Plan or Roth 401(k) plan sub-account, you can invest your after-tax funds in real estate, precious metals, tax liens, private business investments, and much more tax-free! Unlike with a pre-tax 401(k) Plan, all income and gains flow back to a Roth 401(k) account tax-free.

Of course, you must be 59 1/2, and have the account open for at least five or more years. In other words, you can live off your Roth 401(k) Plan assets or income tax-free.

With federal income tax rates expected to increase, the ability to have a tax-free source of income at retirement may be the difference between retiring early or not at all.

Read: Use Of LLCs By Self-Directed IRA Real Estate Investors Grow In Popularity

The Advantages of Real Estate Investing

There are several key reasons why real estate has become one of the most popular non-traditional investment options for Solo 401(k) plan investors.

First, real estate offers diversification from over-exposure to Wall Street from both personal and retirement funds. After the 2008 financial crisis, many retirement investors began to appreciate the importance of having a retirement portfolio that offers balance and diversification. This helps protect retirement funds against another financial crisis.

The second reason is that people like to invest in something they know and understand. Real estate has fast become an asset class that more and more Americans feel confident in. It offers more reassurance over guessing when stocks will go up or down.

Finally, real estate is a hard asset you can touch and see. Buying hard assets, such as real estate is seen as a solid way of protecting retirement assets from the threat of inflation.

These advantages, along with the fact that all income and gains from real estate owned in a Roth Solo 401(k) plan is exempt from tax makes real estate an attractive investment for retirement investors. And using the Roth Solo 401(k) to invest in real-estate is a perfect retirement vehicle.

Loan Feature

While an IRA offers no participant loan feature, the Roth Solo 401(k) for real estate investments allows participants to use a Solo 401(k) Loan to borrow up to $50,000 or 50% of their account value.

This can be for any purpose at a low interest rate (the lowest interest rate is Prime, which is 5.50% as of August 30, 2022). This offers a Roth Solo 401(k) Plan participant the ability to access up to $50,000 to use for anything, including paying personal debt or funding a business.

The Roth Solo 401(k) Plan loan feature can also help a real estate investor fund personal real estate projects with up to $50,000. This is especially attractive to real estate investors facing an unfavorable lending environment.

Use Leverage Without Tax

When an IRA buys real estate that is leveraged with mortgage financing, it creates Unrelated Debt Financed Income (UDFI). This is a type of Unrelated Business Taxable Income (also known as “UBTI or UBIT”) on which taxes must be paid.

The UBTI tax is approximately 40% for 2022.

Whereas, with a Roth Solo 401(k) for real estate investments, you can use leverage without being subject to the UDFI rules and UBTI tax. This exemption provides significant tax advantages for using a Roth Solo 401(k) Plan versus an IRA to purchase real estate.

In other words, with a Roth Solo 401(k) for real estate, one can super charge their returns with non-recourse leverage. This will increase their real estate investment amount and generate tax-free returns without needing to pay UBTI tax. This is a really attractive and exciting opportunity for real estate investors.

Get in Touch

Although you can use a 401(k) to invest in real estate, it’s better to establish a Self-Directed Solo 401(k) or Roth Solo 401(k). If you still have questions about using a Roth Solo 401(k) to invest in real estate, get in touch with IRA Financial Group at 800-472-0646. Or fill out the form to speak with a 401(k) specialist who is on-site to answer any questions you may have.


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