Warning: Creating default object from empty value in /home4/mldbm01/public_html/wp-content/themes/optimize/optimize/functions/admin-hooks.php on line 160

Using Non-Recourse Notes To Leverage Real Estate

As a IRA investor, many times you find a property that you can get a great deal on but you don’t have enough money in your IRA to buy the property. One way to remedy this issue is to using some funds from your IRA and some funds from other peoples money (OPM). However, there is one very important thing you have to remember when doing so in an IRA. The loan has to be a non-recourse loan which means you are not personally guarantee the payback of the loan but only using the property to secure the loan and sole source of repayment. The non recourse lender cannot pursue other assets owned by the account owner or the IRA itself. The IRS does not allow you to personally guarantee anything with respect to your IRA or use the IRA as collateral in any way.

The differences between qualifying and a non-recourse loan are quite different. The non recourse lender will not look at your income, your W-2s, your employment history, your tax returns or other assets outside your IRA. This makes the loan process faster and simpler for both parties. In addition, the non-recourse note does not close under your personal name but under the name and EIN of the custodian you are using at the time and therefore does not go on your credit report. This is helpful to those investors with many loans under their name since Fannie Mae and Freddie Mac limit the number of properties you can finance in you own name.

The non-recourse loans are underwritten similar to commercial loans. They are looking at the property, the leases, cash flow and equity. The main things these types of lender look at are:

  • The property condition, location, and ability to rent.
  • The ability to cash flow the property and cover the monthly mortgage payment and expenses.
  • The funds available in the IRA for the downpayment and the ability to pay the expenses such as taxes, insurance, repairs, vacancies, etc.

Anyone familiar with real estate understands that the use of debt financing can you the ability to leverage their available cash and therefore get better returns. Your return skyrockets when you use debt financing for buying real estate. For example, you buy a $100,000 property (worth $135,000) and use $100,000 of your IRA funds to purchase the property. You rent it for one year and then sell it at $135,000 for a total return of $47,000 ($12,000 rents and $35,000 equity) less yearly expenses of $7,000 (tax, insurance, repairs, etc) and net $40,000 in your IRA. Your cash on cash return is $40,000/$100,000 = 40%. However, if you did the same deal but only used on $30,000 from your IRA and $70,000 non-recourse note (debt serve cost of ~$5000) would result in a much higher return. You would have only $42,000 in the deal ($30,000 IRA money + $7,000 expenses + $5,000 debt financing for a year), not $100,000. Therefore, your cash on cash return would be $40,000/$42,000 = 95%.

0 Comments

Real Estate IRA Income Property

A common investment is to own rental real estate in your IRA or other types of property that generate income. Now is the time to buy real estate for cash flow and long term appreciation. Why? You can now buy a property at half the $/sqft price of a newly built home in many parts of the country. In addition, the rental rate in most parts of the country have increased which has resulted in a perfect storm for acquiring great income property.

Purchasing real estate in your IRA isn’t much different from a normal purchase of an investment property. There are a few exceptions, but this is the basic process assuming you have setup a suitable self directed IRA or solo 401K account:

Purchase Agreement Naming Your IRA As Buyer – “ABC Custodian FBO Your Name IRA”
Earnest Money Deposit MUST Come From Your IRA And Go Directly To Seller
Run Title Search As You Would With Any Investment Property Purchase
Get HUD-1 Settlement And Other Docs Prepared With Amount For IRA To Fund
Have Custodian or Trustee Sign All Closing Docs
Have Custodian or Trustee Wired Money To Closing Attorney/Title
Recorded Deed Goes Back To Custodian or Trustee For Filing
Ensure That All Payments Made To And Expenses Paid From The Investment Go Through The IRA.

For example, you find a property worth $150,000 in perfect condition and you pay $120,000 all cash from your IRA. You now rent it for $1500/month and make $18,000/yr which equates to 15% cash on cash return. This is a great return which would be difficult to impossible to consistently match in the stock market. In addition, this investment is very predictable unlike what happens in the stock market (which is a guessing game).

Now let’s take that same example and use leverage. What if we only use $20,000 of our money from our self directed IRA or solo 401K and get a non recourse loan for the rest. This would increase our return dramatically (50%+ cash on cash return) depending on the cost of the loan. This is when it gets fun and exciting to invest. So stay tuned to more great investment insight.

0 Comments