EAW 2: CREATIVE WAYS TO INVEST WITH RETIREMENT ACCOUNTS
Welcome Everything About Wealth podcast 2, Creative Ways to Invest with Retirement Accounts.
In this podcast, Denny interviewed Jason Debono Vice President of Nuview IRA. Jason graduated from the University of Central Florida and holds a Certified IRA Services Professional Designation from the Institute of Certified Bankers. He made his mark in the self-directed account industry fourteen years ago after visiting a job fair. The company he works at Nuview was looking for new talent. Although he was not familiar with the company, his interest in the industry grew right away after seeing his dad’s reaction when Jason shared the possibilities of buying real estate within an IRA. His dad argued it was not possible so, he wanted to prove his dad wrong. Jason’s dad later learned the possibilities of self-directed investing and wished he would have learned about them sooner. Nuview Trust Company is a premier, regulated Custodian for self-directed alternative investments, primarily held in IRA and retirement accounts. Nuview IRA provides administrative services and processing on behalf of Nuview Trust Company. They are in Orlando FL. Currently, they hold over 1.2 billion in assets for their clients.
What is Self Directed investing? Self-direction means the account owner decides. Investment options are not limited by the custodian holding the funds. For example, Charles Schwab and Fidelity Investments are two of the largest retirement account custodians. For a long time, they only offered accounts with a limited amount of mutual fund options or if your employer is a public company their stock would be made available. Nuview does the same job as a bank or traditional brokerage firm serving as a custodian of retirement accounts. However, most of their accounts aren’t holding publicly traded securities.
What Can Self Directed Accounts Invest In? One of the first things Jason recommended to all investors is to invest into what you understand. Some people are comfortable investing in real estate more than in public securities. Account holders can invest in real estate with cash they hold outside of their retirement account too but then it becomes a taxable event. Instead, self-directed accounts allow the option of using funds from the retirement account to invest. If done correctly, the funds in the retirement account can then be taken out tax free or tax deferred after age 59 ½ depending on the account. If the funds grow tax deferred or tax free more funds may be accumulated over time.
At Nuview, clients are typically investing in alternative investments other than stocks and bonds. Alternative investments include commodities, real estate, notes, private companies and more. Clients can also invest in traditional investments such as publicly traded stocks and bonds. Most clients move funds to Nuview to allocate all or a portion of their portfolio in alternative investments. By focusing on investments outside of the stock market clients use their superior knowledge in specific asset types to earn higher returns on investment.
What Investments are not allowed? Collectibles such as art (with limited exceptions) and life insurance are not allowed.
Accounts that Can Be Self Directed 1. Individual Retirement Account (IRA) – The contributions are tax deductible and grow tax deferred if distributed after age 59 ½.
2. Roth IRA – The contributions are not tax deductible, but grow tax free if distributed after age 59 ½.
3. 401k – An employer-based retirement plan allowing employees to contribute a portion of their wages to individual accounts. Contributions are tax deductible and growth is tax deferred.
4. Roth 401k – An employer-based retirement plan allowing employee to contribute a portion of their wages to individual accounts. Plan contributions are not tax deductible but grow tax free.
5. Coverdell or Educational Savings Account (ESA) – The contributions are not tax deductible, but all growth is tax free if used for qualifying education expenses.
6. Health Savings Accounts (HSA) – This account allows a tax deduction for contributions and tax-free distributions if used for qualifying health expenses. These accounts are typically combined with high deductible health insurance policies.
7. Simple IRA - used by small employers with less than 100 employees. This account is also called a 401k light. It is typically used by a 4 or 5 person company allowing them to have an account similar to a 401k without the cost.
8. Simplified Employee Pension (SEP) Individual Retirement Arrangement (IRA) – This account allows contributions of 25% of self-employed earnings to be tax deductible.
9. Individual or Solo 401k – A great vehicle where the owner of the company can save like an employee and an employer. The maximum annual employee contribution is higher at $19,000 and can be matched by the employer for a total of 25% of income. This is great as it allows a higher combined contribution limit of $56,000.
Rules 1. Asset class rule - No life insurance or collectibles allowed.
2. Prohibited transactions and disqualified parties – The IRS does not allow a transaction between a prohibited or disqualified party. This includes the account owner, their spouse, parents and grandparents of owner and spouse. Lastly, the kids of the account owner.
This is to prevent sweetheart deals between family members. For example, parents may want to give their son a discounted interest rate of 5% versus the market rate of 10% when providing a loan on a house flip or rental. This is not in the best interest of the account holder and the IRS created rules to prevent it.
Prior to Dessiree and I getting married, her father was a private investor of mine. I had bought houses and her father had earned interest as the lender on the properties. Dessiree and I were getting married on May 7th and we had a closing for a 20-unit apartment building on May 17th. Her dad planned to use his IRA funds to be a passive capital partner for the project. After a short conversation with Jason Debono as we were planning for the closing, he stated that we would not be able to partner with the IRA as it would violate the disqualified party rule. We explained that to Dessi’s dad. He was a bit unhappy about the situation, but (I think) was still happy to have me as a son in law and that his IRA account was not placed at risk. Violating the rules creates penalties that are due from the date of the account violation. This can be expensive. Dessi’s dad did end up investing in the apartment building, but he had to do so using his personal funds.
What is Unrelated Business Income Tax or UBIT? There are scenarios when taxes apply within the IRA even if the account is tax free or tax deferred. When this happens, it is called a UBIT tax. UBIT has a cousin named Unrelated Debt Finance Income (UDFI) and it is a type of income that can cause taxes to be owed. According to Jason there are a couple of very rare scenarios when UBIT is due and this is a time to be ok with paying a tax. The reason for this is that you are using your account to earn a higher return than it was designed for.
For example, IRA accounts were not made to borrow money and make additional income because of the debt. If you buy a house for $100,000 and you put 50% down using funds from your IRA account and obtain a loan from a bank for the other 50% then half of the income from the rents and sale proceeds will be subject to tax. Why? Because half the funds are not coming from the IRA, they are coming from the loan the IRA obtained and this means you are using the account to earn a higher return than it was designed for. It is earning income from debt or Unrelated Debt Finance Income (UDFI).
Rules to Remember When Getting Loans Self-Directed accounts cannot hold recourse on debt. If you buy a house there is typically a personal guarantee or personal recourse. This is not allowed when getting a loan for a self-directed account. It is important to find a lender that offers non-recourse loan programs. Non-Recourse means the lender is lending money, but it limits the recourse to the property and money invested in the property. The lender cannot go after the self-directed account if the debt is unpaid.
Can the account invest in a company where the sponsor of the investment does sign recourse debt? If you are not investing with a restricted party the self-directed account can invest in that type of investment vehicle. When we buy apartment buildings using community banks as our lenders, we as the sponsors must personally guarantee the loans. This is also common on development projects using community or regional banks. This type of vehicle is typically used when investing passively.
How to Find a Good Custodian to Hold Your Investment Funds? 1.Verify if a company is a fully regulated trust company or custodian.
2.Stability and track record are important. Jason says, “I don’t want to be my doctors first patient”. Find a company that has seen enough transactions to provide valuable information.
3.Understanding the service model is key. Consider their technology platform, service level agreement, etc. Don’t judge the company by the sales team as they always answer their phone. Call the customer service department and see how long the hold times are.
What Alternative Investments are Nuview Clients Investing In? 1.Real Estate – Direct ownership in raw land, single family residential, multifamily, commercial, land with billboards, tax liens, tax deeds, foreclosure auctions. International properties are also popular.
2.Private lending – Clients invest heavily in notes and mortgages as well as unsecured loans. Real estate is the most common type of collateral, but other types include farmland, crops, ownership in businesses and even a liquor license.
3.Private investments/Passive investments –Passive investments can be a partnership interest in a Limited Liability Company (LLC). The LLC can own real estate such as multifamily, commercial office buildings, retail plazas or even a fully operating business. The great thing about passive investments is taking part in larger deals with larger returns. Another benefit is not having to build all the necessary skills of sourcing and operating those types of projects.
Tips for someone considering self-direction or how to share it with a friend 1.Ask yourself if your knowledge and experience is outside of the stock market? Having this expertise puts you in a great position for alternative investments.
2.Do you want to be active or passive? Jason says he prefers to be a passive investor as he does not have time to constantly look for good investment opportunities. He instead focuses on reviewing each investment sponsor and the deals location, numbers, etc.
3.If you are seeking people that want to be passive investors consider what their track record is? How will you provide reporting? Being responsible for your own money is hard. Being responsible for another person’s money is much harder. Get your financial house in order first.
What worked well for Dessiree and I when we were getting started investing in apartment buildings was partnering. We worked with someone that already had experience and had done a few deals. We learned the right things to do and the wrong things not to do. We recommend this for anyone getting started so they can build their experience.
For more information about investing in self-directed accounts reach out to Nuview Trust using the contact information below:
www.Nuviewtrust.com Jason Debono 1-877-259-3256 firstname.lastname@example.org
Book Mentioned On Call Keep It! Advanced Tax Strategies for IRA's by Joe Luby
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