another real estate investment question Options

[Gudgergirl]

Client has $400k in an IRA and wants to invest it in real estate. The real estate in question costs $600k. If the IRA borrows $200k to buy the real, it will have UBTI.
Client has the $200k but is prohibited form lending it to IRA under the prohibited transaction rules.
Can client and IRA simply purchase the property together (or form an LLC to purchase the property)?

[FISS]

Client has $400k in an IRA and wants to invest it in real estate. The real estate in question costs $600k. If the IRA borrows $200k to buy the real, it will have UBTI.
Client has the $200k but is prohibited form lending it to IRA under the prohibited transaction rules.
Can client and IRA simply purchase the property together (or form an LLC to purchase the property)?

Gundergirl:

Let me preface with a recommendation to consult an attorney or CPA for full details on UBTI. However, my understanding is that the mere use of a loan to the IRA to purchase property does not generate UBTI or specifically, Unrelated Debt Financed Income (UDFI), but any income associated with the property is taxed (i.e. rental income) based on the net income of the property (after expenses such as interest expense, maintenance, depreciation, etc.) attributable to the financed portion (i.e. initially 33% in your example-200k/600K). There is also an exemption of the first $XX (I think it's $1000) of income. Quite often, UDFI is less of an issue than generally perceived. Also, at time of sale, any gain (based on the then financed portion) is taxed under UBTI/UDFI rules. However, if the loan is paid off 12 months prior to sale, then no tax on gain at time of sale. Please note that a property is not depreciated per se in an IRA, but "phantom" depreciation may be used to determine net IRA income on the property for the purposes of UDFI.

Finally, a property can always be purchased through a Tenant-in-common ownership structure which could be utilized to purchase the property as 2/3 IRA ownership, 1/3 other ownership (personally, other qual plan, other investor). However, one must be VERY careful to maintain accurate records to ensure that all income/expense is allocated appropriately and that no prohibited transactions occur (i.e. the IRA owner performs maintenance personally, or uses the real estate for persona use). And, a tenant-in-common ownership structure negates the need to establish an LLC simple to manage group ownership.

PM me if you would like any additional info.

[jpod]

The mere co-investment between an IRA and the IRA owner, or a family member of the IRA owner, could be a pt under Section 4975 of the Code.

[J Simmons]

The mere co-investment between an IRA and the IRA owner, or a family member of the IRA owner, could be a pt under Section 4975 of the Code.

I agree with jpod. Get a legal opinion on the pt question before proceeding.