Real estate is an allowable investment inside an IRA, but you’re going to have to find an IRA custodian willing to do it. A recent Tax Court case showed how not to invest IRA money in real estate.
An individual wanted his IRA to directly buy a piece of undeveloped land, but the problem was his brokerage firm (the IRA custodian) had a policy of not allowing clients to invest in "alternative investments" which included real estate.
Instead of moving his IRA money to a different IRA custodian who would allow real estate as an investment, his idea was to have the money wired from his current IRA directly to the seller and have the property titled in the name of his existing IRA. He was essentially trying to get around his current IRA custodian’s policy of prohibiting real estate as an investment. The IRS found out and said he took a taxable IRA distribution because his IRA never actually bought the land. He disagreed and they ended up in court.
The Tax Court ruled that he owed income tax on the IRA distribution. The Court said the IRA custodian didn’t have to offer real estate as an investment, even though the law allows it. As a result, the individual was not acting as an agent for the custodian when he bought a property with his IRA money and tried to title it in the IRA custodian’s name.
The case highlights that if you want to have your IRA buy a piece of real estate directly, you first have to find an IRA custodian who will allow it. Even then, you should work with an advisor and custodian who have experience with all the issues involved in IRA owned real estate.
Maybe a safer way to invest IRA money in real estate is to do it indirectly by investing in either a limited partnership or limited liability company that invests in real estate (that you don’t control or use personally). A better idea might be to invest in a Real Estate Investment Trust (REIT), which is publicly traded and has a readily ascertainable value. Always work with an experienced advisor before having your IRA make the investment.
- By Joe Cicchinelli and Jared Trexler
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