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Many who are or are thinking about entering into the self-directed retirement plan world are concerned about having their IRA engage in a prohibited transaction. “I want to make sure I color between the lines,” as someone put it once. There are many benefits of coloring between the lines, meaning following the tax code. The tax code associated with retirement plans allows for many advantages that plain investing does not. Let’s focus on a couple of the features allowed under tax law, tax deferment and tax-free distributions. In investing, it is not only important to know how much return you can experience from the investment, it is also import to know how much of the return you get to keep.
A Real Estate Roth IRA
Let’s look at investing in real estate using a Roth IRA. In real estate, there’s the potential of two levels of earnings: the appreciation of the property and possible income from rents. The appreciation of the property can be realized by the sale of a property. The gains on the sale of the property are not taxable under a Roth IRA. Since gains on investments under a Roth IRA are tax-deferred, there is no taxation on the gains as long as it stays in a Roth IRA. The investment could also produce income. The rent received from the property held under a Roth IRA is not taxable to the Roth IRA. The funds remain tax deferred. Tax treatment only happens when a distribution occurs. In a Roth, once the person has had a Roth IRA established for 5 years and one of the following events occur (i.e., attainment of age 59.5, death, disability or up to 10,000 purchase of your first home), everything in the Roth becomes tax-free.
Partnering your IRA to Fund for your IRA Investment
The question many have is: "what if I do not have enough funds in my IRAs?" Partnering with other people is one of the options many people fail to consider. You can partner with other family members, friends or even invest in a pooled investment funded by investors. Although allowed by law, many do not know the options available for investing in non-traditional investments. It may require careful record keeping to make sure that the proportionate share of funding, expenses and income flow in and out the appropriate share, which is based on ownership percentages. Other family members such as siblings, cousins, aunts and uncles are family members that are not in the list of disqualified persons under the code.
Solidifying a Beneficiary to Leave a Legacy
The biggest value the tax law brings to the table is the opportunity to pass on the benefits of the retirement account to the underlying beneficiaries named under the retirement plan. Once an individual dies there are options available to the beneficiary named under the retirement plan (IRC 401(a)(9) that allows the beneficiary to retain the tax deferred status of the assets held under the retirement plan and only require the beneficiary to distribute a minimum amount from the IRA annually. The distribution is based on the life expectancy of the beneficiary. This can create a stream of income for the beneficiary for the rest of their life.
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