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Pocket 401(k) for Tax Liens/Tax Deeds

tax liens/tax deeds
6 Minute Read

IRA Financial’s Pocket 401(k) will allow you to use your retirement funds to invest in all types of investment funds, such as tax liens or tax deeds directly from your mobile device or PC securely, and cost effectively. You no longer need a third-party 401k custodian involved in every aspect of your investment transaction. Make tax lien or tax deed investments on your own directly from a mobile device or PC with IRA Financial’s Pocket 401(k) for tax liens/tax deeds. Additionally, rollover, deposit, or transfer funds between your investment and 401k seamlessly and without delay.

Why Tax Liens/Tax Deeds

What is a Tax Lien?

Purchasing tax lien certificates is one way to get real estate exposure in your portfolio without investing in any property. While sophisticated investors can make decent returns by investing in tax liens, novices can easily get burned.

Here’s how it works: When a property owner fails to pay his or her taxes, the municipality in which the property is located can sell its tax lien — the right to foreclose on a property when the owner has failed to pay taxes.

The winner of a tax lien certificate is typically the investor willing to accept the lowest interest rate. Most tax liens purchased at auction are sold at rates between 3 percent and 8 percent nationally. The property owner has a redemption period — generally one to three years — to pay the taxes plus interest. If the property owner fails to pay the property taxes by the end of the redemption period, the lienholder can initiate foreclosure proceedings to take ownership of the property. However, this rarely happens because the taxes are generally paid before the redemption date. The interest rates make tax liens an attractive investment.

Purchasing Tax Liens with Retirement Funds

Tax liens may be purchased using retirement funds. The purchase of tax lien certificates is a surprisingly safe investment and the use of a Solo 401(k)/LLC is one of the most tax efficient ways to finance your tax lien purchase. The primary advantages of using a solo 401(k) to make tax lien investments are as follows:

  • Investment flexibility
  • Steady Income Generator with no tax bite
    – Tax Deferral
    – Gains from the tax liens investment will flow back to the Solo 401(k)
  • Control
  • Diversification
  • Tax Advantaged Investing

What is a Tax Deed?

In Tax Deed States, the process is simpler than that of tax liens because when you buy a tax deed, you are buying the actual property. The process is simpler because in most Tax Deed States, there is no redemption period. Similar to tax liens, the county’s primary interest is to recoup the unpaid property taxes on each property. Once a tax deed has been sold to an investor, the prior owner cannot come back and reclaim their property. When you purchase a tax deed – you own the property free and clear.

Similar to tax lien states, every tax deed state has a different set of rules about how long a property must be delinquent before foreclosure occurs, but given that there is no redemption period, most of the complexities are eliminated, which makes the system much simpler for investors.

If you’re trying to decide whether to invest in tax liens or tax deeds, it really comes down to what your goals are as an investor.

Tax Advantages

The advantage of using retirement funds to invest into tax liens or tax deeds investments is that, in general, all the income and gains generated by the investment would not be subject to any tax or penalty. Instead of paying tax on the returns associated with the tax lien or tax deed investment, tax is paid at a later date, leaving the investment to grow unhindered. Using a solo 401(k) to make a tax lien or tax deed investment is tax advantageous because the tax on the interest payments can be deferred in the case of a pre-tax 401k or exempted permanently in the case of a Roth 401k.

In addition, solo 401(k) investments are made when a person is earning higher income and is taxed at a higher tax rate. Withdrawals are made from an investment account when a person is earning little or no income and is taxed at a lower rate.

Unrelated Business Taxable Income

In general, almost all retirement account investments that generate passive income will not be subject to Unrelated Business Taxable Income (UBTI or UBIT) or Unrelated Debt Finance Income (UDFI) Tax.

The UBTI tax is only triggered if:

  • Retirement account uses margin to buy stock
  • Retirement account invests in an active business through a passthrough entity, such as an LLC

The UDFI tax is triggered if:

  • A 401k uses a nonrecourse loan (real estate acquisition financing) to purchase real estate)
  • Exemption for 401(k) plans
    • IRC 514(c)(9)

The UBTI & UDFI trigger the same tax rate, which is a maximum of 37% for 2019.

Therefore, if you plan to invest into tax lien or tax deed investments using a solo 401(k) and the underlying investment will not involve an investment into a business operated via a passthrough entity, such as an LLC, will have debt or margin, the UBTI tax rules will not be triggered.

The good news is that your IRA Financial assigned specialists will help you understand the potential application of the UBTI/UDFI tax rules and potentially reduce or eliminate it.

Why Use a Solo 401(k) to Invest in Tax Liens or Tax Deeds?

Unfortunately, none of the major financial institutions will allow you to use 401(k) plan funds to invest in tax liens or tax deeds or essentially anything outside of Wall Street. The reason for this is simple: banks do not make money when you invest in non-traditional equities, such as tax liens or tax deeds. They make money when you buy stock, mutual funds, and other financial products they market. As a result, a large number of individuals are turning to a Solo 401(k) to invest in tax liens or tax deeds.

What is the Pocket 401k?

IRA Financial’s Pocket 401(k) is essentially a solo 401(k) with checkbook control. It is an IRS approved structure that allows one to use his or her retirement funds to make tax lien or tax deed investments tax-free and without custodian consent. The Pocket 401(k) for tax liens/tax deeds involves the establishment of a limited liability company (“LLC”) that is owned by the 401k (care of the custodian) and managed by you or any third-party. As manager of the 401k LLC, you will have control over the 401k assets to make the investments you want and understand – not just investments forced upon you by Wall Street.

How it Works:

  1. Establish the solo 401(k) with IRA Financial Trust & Capital One online though our mobile app.
  2. Your 401k cash/assets can be rolled over to IRA Financial Trust tax-free directly from our mobile app.
  3. The assets will be transferred to a new Solo 401(k) plan checking account with Capital One Bank. Your assigned specialists will help you open a self-directed plan account with Capital One seamlessly and with no wiring fees or minimum balance requirement. Now you can establish a solo 401(k) with checkbook control and not visit a bank or deal with bank opening documentation. Our relationship with Capital One Bank makes IRA Financial the only self-directed provider that can open a solo 401(k) plan bank account for our clients. This makes the process quick, easy, and cost-effective. As manager of the LLC, you will open a bank account for the LLC at any local bank. IRA Financial will draft an LLC Operating Agreement identifying you as manager of the LLC and the 401k as the sole member.
  4. You, as manager of the LLC, will then have checkbook control over all the assets/funds in the 401k LLC to make the real estate investment.

Since the LLC is owned 100% by a 401k, it will be treated as a disregarded entity for tax purposes. No Federal income tax return is required to be filed and all income and gains will flow back to the 401k without tax.

With a Pocket 401(k) for tax liens/tax deeds, you will have the power to act quickly on a potential investment opportunity. When you find an investment that you want to make with your 401k funds, as manager of the Checkbook 401k LLC, simply write a check or wire the funds straight from your Solo 401(k) LLC bank account. The Pocket 401(k) allows you to eliminate the delays associated with a 401k custodian, enabling you to act quickly when the right investment opportunity presents itself. In addition, with the Pocket 401(k) for tax liens/tax deeds structure, all income and gains from 401k investments will generally flow back to your 401k LLC tax-free. Because an LLC is treated as a pass-through entity for federal income tax purposes and the 401k , as the member of the LLC, is a tax-exempt party pursuant to Internal Revenue Code Section 408, all income and gains of the 401k LLC will flow-through to the 401k tax-free!

The following Tax Lien/Tax Deed investments have been popular with our solo 401(k) clients in 2019:

  • Florida – Lien and Deed state
  • Georgia – Penalty Deed
  • Indiana Lien
  • Arizona Lien
  • Texas – Penalty Deed

Getting Started

We’re here to help. If you want to establish a Pocket 401(k) to make tax liens or tax deeds investments, contact IRA Financial directly at 800-472-0646. You can also fill out one of our forms to speak with a tax specialist.

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