In this episode of the Alchemist Nation Real Estate Podcast, I talk to Clay Malcolm who is going to teach us how to untap your 401K and IRA and still buy real estate. I wanted to know how Clay got involved in all of this because he is kind of a magician when it comes to the 401K and the IRA. These are products that I owned before when I used to work my 9 – 5 and I essentially wiped them out, paid the ten penalities, and bought real estate with them which was 7 years ago. He says that the thing for him was that he had contributed to the IRAs and 401Ks and they were not doing enough for him. As his interest in them grew, he just found a job in the industry, so the great thing about that is that not only did he get to learn about the extreme details and all the special things to go into IRA investing in real estate but also get to interact with experts like me. He is learning about real estate, he is using his IRA to invest in real estate, so it has been a great combination for him.
Part 1 Of the Podcast
Part 2 of the Podcast
I ask Clay how he got into real estate in the first place. He says that his first time in real estate was as an accidental landlord where he owned a house and moved out, kept it, and rented it. He saw how well that was working and it fueled his interest in real estate investing and of course, stock market bumps in 2000 and other things like that have made him a little wary, so he has always wanted to be able to be diversified but also to get the best returns. Putting money in a tax-advantaged account that can grow faster than his personal money because of the tax advantages. So he had to find that one thing that makes the money the most money which is basically how he got there.
I further ask if Clay if he got gains on and paid taxes on the house he sold in Kansas City. He says that he got gains and no taxes. In contrast to the strategy that some people use which is getting rid of all those accounts that one has contributed to and move that money to where one has total control of it instantaneously in one’s personal world and he understands that strategy. In contrast to what is happening here is the IRA, that money is still in the IRA even though it is still dispersed to purchase the property, to pay for insurance and taxes, and that kind of stuff that is needed to do. That money is considered to be in the sphere of the IRA, so it is tax-protected so that when those returns the profit come back, they come back and they’re not taxed which means they can compound faster. All the proceeds from that real estate deal came right back, so he had more money to invest in the next thing.
Before we go into the details of the 401K and IRA, I want to know what the product is called. He says that it is a great question and the vocabulary may be confusing for folks. He says that the term self-directed IRA is not a legal distinction, it is not an account type, it is actually a descriptive term and it all indicates that the IRA holder is going to have some sort of choices in terms of what the account buys. So Schwab and Fidelity and those guys have self-directed IRA which means you get to pick from 10 mutual funds. It gives you some latitude but not so much and he thinks that if you’re looking to be an IRA investor, you’re looking for an IRA custodial entity or IRA provider that handles quote-unquote alternatives and specifically real estate.
I also ask Clay if I’m still working at a company and I have 40K or 50k seated in my 401K. Can I use it as a down payment and it stays in the 401K or does the deal have to be the full dollar amount. He says that there are two pieces to that and will take one at a time. 1) When you have a 401K or some other employer-sponsored plan, so you work at the company and they offer some tax advantage retirement plan, a lot of times that money can’t be moved until you separate from employment but lots of us still change jobs over the years. Any 401K or retirement plan for an employer you no longer work for is automatically mobile meaning that you can roll it over without tax and penalty. Typically what you do is roll it into a traditional IRA and that money can be still moved to a different custodian without taxes and penalty and put in a position to invest in real estate. If you’re still employed, their 401K or Pension plan won’t let that money out but you might ask and they will offer what is called In-service distribution or in-service rollover so that you can get some of that money to invest in real estate. 2) Does your IRA have full value or investment value or purchase price? The answer is no, actually, your IRA can take out debt leverage and the rental property that his IRA bought in Kansas city was debt leveraged and there are some restrictions to it and he is not allowed to pledge assets as collateral for that loan.
In the first part of the episode, Clay was talking about how you can use leverage to purchase properties, using the bank’s money, I wanted to know how does it work. He says that no matter the account type whether it is SEP IRA, Traditional IRA, Roth IRA, or Solo 401K, that account can actually take out debt. What the IRS limits, what collateral you can pledge for that, so as the account holder, he can’t pledge his personal assets as collateral for that loan because it is only given to the IRA. In fact, an IRA and solo 401K are different legal entities than him personally, it is his money, and gets to control them but they’re different legal entities. That’s one of the reasons he was talking about earlier when you go to raise money for a deal if he is talking to a potential investor or partner, he is actually talking to two pools of money i.e he is talking to their personal money whether they have it and feel comfortable using it in the deal or do they have an IRA or 401K that they feel like putting in that deal as well. So when it comes to these loans, when your IRA wants to use debt leverage to increase your buying power, the lender is lending to the IRA, not to him personally. If there is a default all they can do is to take the property back which is the subject of the loan and what it means is that the value of the loan usually changes. 40% is not uncommon to ask for a 40% down payment but the amazing thing about this is that it takes a little while to get kind of the idea. The IRS is going to let your IRA make money on money that you didn’t actually contribute to the account, so if he has 60% debt leverage on, theoretically he is making 60% more money than on the 40% he had contributed.
Clay offers 3 pieces of advice to 20-year-old Clay on how to move faster and further.
1) – Get Started
2) – Make sure you understand somebody’s IRA is at play
3) – If you can get money into a Roth format, please take advantage of that if you’re younger.
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