How to Purchase That Asset You Can't Quite Afford
Estimated reading time: 2 minutes
Serious retirement savers know the value of having a budget and sticking to it. After all, including retirement saving as a line item in your household budget no doubt helped you build your retirement nest egg.
But occasionally you need to break your budget.
Suppose you find a great investment opportunity but don’t have quite enough money in your IRA to make the purchase. Rather than let the opportunity slip away, there are ways to make your IRA balance go further. One of the most useful—especially for real estate investments—is a non-recourse loan.
Non-Recourse Loan Defined
When you borrow money, the lender typically requires collateral—something pledged as security against the possibility of non-payment. If the loan is not repaid, the borrower can seize the collateral. Collateral can include the asset purchased with the borrowed money, other assets, and/or bank accounts owned by the borrower.
A non-recourse loan is a type of debt that is secured only by the asset offered as collateral. The lender has “no recourse” to seize other assets if you default on payments.
Benefits & Protections of Non-Recourse Loans
The primary benefit of non-recourse loans is asset protection. Non-recourse loans protect your other assets in the case of default on the loan itself.
This is especially important for retirement savers who use non-recourse loans to purchase real estate. For example, your IRA takes out a non-recourse loan to purchase a duplex that you intend to rent out. A hurricane damages the duplex. Rather than undertaking very expensive repairs, you decide to let the bank foreclose on the loan. The bank can seize only the duplex. It cannot go after the funds still in your IRA.
Unrelated Debt-Financed Income (UDFI) is the one downside of non-recourse loans. The IRS assesses a tax on any income derived from the use of “acquisition indebtedness” in Self-Directed IRAs. UDFI will be assessed on the proportional basis.
Read more about UDFI.
Other Ways to Supplement Your IRA Balances When You Invest
Non-recourse loans are great, but you have other options to fund the purchase of real estate using your IRA. You can partner with other IRAs or other investor and entities. Partnering gives you a bigger pool of resources and it can mitigate risk.
When you partner your IRA, each partner owns a proportionate share of the asset purchased. This means your IRA will be responsible for a proportionate share of the expenses and will receive the same share of the revenue and, eventually, the sale price.
Read more about partnering strategies.