10 Reasons Why You May NOT Want to Put Your Real Estate in a Pension Plan


This post is in: Real Estate
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4-1-11

If you’ve been following my blogs here (USTaxAid.com) or at USTaxAidServices.com, NexusNegotiator.com, SmartBusinessStupidBusinessOnline or LegalShelfCompany.com, you’ve probably heard me talk about how much I like self-directed pension investing.

But it’s not always as easy as it might sound in a blog entry. Brett Goldstein, a specialist in 401(k) administration, gives us his 10 reasons why he doesn’t like to put real estate in a pension plan:

  1. Can’t depreciate property and take advantage of the writeoff.
  2. You might have to pay the Unrelated Business Taxable Income Tax (UBIT).
  3. Property would need to be an appraised every year-that could get expensive.
  4. Property in pension plan or 401k could trigger the requirement for a CPA audited financial statement, which can cost 20K per year.
  5. You can’t lease the property to yourself.
  6. You can’t sell the property from pension plan to yourself or to any close member of your family.
  7. Any gain from sale of property is taxed at normal income tax rates as opposed to capital gains.
  8. Employees can sue if they feel that the real estate was not a proper investment to make. 
  9. If someone slipped and fell on the property owned by the pension plan, the pension plan and trustee of the plan could get sued. 

And the number 1 reason why Brett Does Not Like Real Estate In a Retirement Plan…….

  1. It could trigger an IRS audit.

Brett provides even more information below:

4 Things To Consider Before Buying Real Estate In Your Retirement Plan

Ever since Carlton Sheets appeared on television in the 1980s, wealth seekers have been trying to use real estate to build wealth.  The problem for most people is that the majority of their money is tied up in 401ks, pensions and other types of retirement plans.  Financial experts have found a solution to this problem- buy real estate in your retirement plan.  However, there are a number of reasons why you may not want to buy real estate in your 401k, pension, or IRA.
 
Many people buying real estate often overlook the prohibited transaction rules under Internal Revenue Code 4975.  The prohibited transaction rules prohibit you (and certain members of your family) from buying real estate in your retirement plan and leasing the property back to you or your business. The prohibited transaction rules also prevent you (and certain members of your family) from buying real estate from your retirement plan.  If you do buy property and lease it to yourself, or you buy property from your retirement plan, you will pay penalty taxes.   
 
Yes, you can you buy property in your retirement plan and lease it or sell it to other people.  However there are other rules that make buying property much more difficult that it appears.    If you find a piece of real estate that you like, you must have enough money in your retirement plan to buy it outright.  If you obtain a mortgage for the purchase of the property and use the money in your retirement plan as a down payment, depending on the type of retirement plan you have, you may owe Unrelated Business Income Tax (UBIT).   If you have to pay UBIT, you will be taxed twice; once on the income subject to UBIT and you or your beneficiary will be taxed when you withdraw the money from your retirement plan. 
 
So you’re in the clear if you buy real estate in your retirement plan without obtaining a mortgage and/or leasing/selling to yourself?  Not yet.  Department of Labor regulations state that qualified retirement plans, such as 401ks and pension plans, must be covered by a fidelity bond. A fidelity bond protects the assets in the plan from misuse or misappropriation by the plan fiduciaries. At the very least, the bond must equal 10% of the value of the total plan assets. 

However, if more than 5% of the 401k or pension is invested in things like real estate, then 100% of the value of the real estate must be bonded or a Certified Public Accountant must provide annually provide a full-scope audit.  The cost for a fidelity bond can cost anywhere from a few hundred to a few thousand depending on the value of the real estate. 
 
Thus in order to make sure that you are not over paying for your bond, the real estate has to be appraised every year.  The real estate in your retirement plan also has to be appraised every year for certain tax forms that 401ks and other pension plans are required to file every year. 
 
If you can’t get bonded you’ll need a Certified Public Accountant to provide a full-scope audit, which can cost anywhere from $10,000-$30,000 per year. While it seems like a no-brainer to get a bond for a few hundred instead of spending $20,000 for a CPA, there are only few insurance companies that are in the Fidelity Bond market and some of them may not want to insure real estate in a retirement plan. 
 
So you’re in the clear if you buy real estate in your retirement plan without obtaining a mortgage, leasing/selling to yourself, and getting a fidelity bond?  Not yet.  If you buy real estate in your 401k or pension plan, it increases the chances of an IRS audit.  Form 5500 is required to be filed every year by 401ks and other pension plans.  Form 5500 specifically asks whether or not the plan holds any real estate.  Thus the IRS may want to audit your 401k or pension plans to check as to whether you have violated the prohibited transaction rules.
 
Thus, if you are considering getting into the real estate market and you want to use the money in your retirement plan, make sure you speak to your financial and tax advisors before.  There are many regulations, additional annual costs, and additional taxes that need to be considered before buying real estate in a retirement plan.
 
Brett can be reached through his company website at www.401kadministrator.net or via phone at 516.346.2999.



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