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Real Estate Syndications: Taxable, SD-IRA or SD-401K?

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  • Real Estate Syndications: Taxable, SD-IRA or SD-401K?

    I am starting real estate syndication investing this year. Where do you shelter these investments? Or do you invest with taxable funds? I am otherwise entirely a W2 earner with no passive income at present. I think I have three options:

    1. Use taxable funds.
    Pros: Simplicity. Can take advantage of depreciation and 1031 exchanges.
    Cons: Should take advantage of depreciation and 1031 exchanges, the latter of which is difficult with syndication investing and puts time pressure on participation in new offerings. Depreciation less beneficial without other passive income at present. Need to do out of state tax returns. Also tax bomb in year(s) of sale.

    2. Use self-directed Roth IRA.
    Pros: Higher expected returns functionally increases Roth space. Lower taxes. No out of state tax returns.
    Cons: Higher administrative costs and complexity. Subject to UBTI taxation for levered investments.

    3. Use self-directed solo 401k.
    Pros: Avoids UBTI taxation for levered real estate investments. No out of state tax returns.
    Cons: Higher administrative costs and complexity. RMDs become an issue though that is decades away for me so less of a concern.

    I have a 401k from an old employer that I believe can be rolled over into a self directed solo 401k for the purpose of option 3. I believe I need to create at least a minimum of self-employment income to begin this process (ie income from surveys, etc). I welcome any advice here. Can I do the rollover in the same year I create the account? Also, I want to make sure none of these violate ability to do backdoor Roths (I'm fairly certain they do not).

  • #2
    If the increased income in year of sale doesn't change your marginal tax rate, does it matter that you get most of the income in 1 year instead of spread out?

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    • #3
      I think most would argue that to take full advantage of the tax benefits of real estate it's best owned outside of a qualified retirement account. The passive income losses generated by the depreciation are wasted in the qualified accounts and you don't need to deal with figuring out UDFI. Having said that I do own investment real estate in a SDIRA. I put it there to diversify out of the stock market. At the time the vast bulk of our funds were in a qualified account and that's why it's owned there.

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      • #4
        Originally posted by dennis View Post
        I think most would argue that to take full advantage of the tax benefits of real estate it's best owned outside of a qualified retirement account. The passive income losses generated by the depreciation are wasted in the qualified accounts and you don't need to deal with figuring out UDFI. Having said that I do own investment real estate in a SDIRA. I put it there to diversify out of the stock market. At the time the vast bulk of our funds were in a qualified account and that's why it's owned there.
        Fair enough. In my particular situation without other passive income though I am not sure of the benefit of being in taxable.

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        • #5
          Originally posted by NinjaDoc View Post
          If the increased income in year of sale doesn't change your marginal tax rate, does it matter that you get most of the income in 1 year instead of spread out?
          I agree to your point but bigger question is whether to use taxable assets at all.

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          • #6
            I have never been a fan of self-directed retirement accounts for many, many reasons.

            You should investigate how the real estate QBI deduction may affect the net taxes in taxable.

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            • #7
              Originally posted by spiritrider View Post
              I have never been a fan of self-directed retirement accounts for many, many reasons.

              You should investigate how the real estate QBI deduction may affect the net taxes in taxable.
              What are you reasons?

              I appreciate the suggestion however the QBI isn’t applicable to the typical activities associated with syndicated investments.

              from: https://www.journalofaccountancy.com...201922135.html

              However, hours spent in the owner’s capacity as an investor, such as arranging financing, procuring property, reviewing financial statements or reports on operations, and traveling to and from the real estate, will not be considered hours of service for the enterprise.

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              • #8
                As a general rule, debt investments go in a self-directed tax protected account and equity investments in a taxable account. Most of those who have significant passive real estate investments have a pretty large taxable:tax protected ratio so they're not trying to stuff equity real estate into their retirement accounts, most of which usually aren't self-directed.
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