Rolling real estate from qualified plan into IRA

[Guest Sieve]

Question (what else?):

Real estate is in qualified plan for the benefit of 3 brothers who purchased it with plan assets long ago when they were the only participants. Real estate was not in an LLC or any other organization, but was held directly by the Plan. One property is a commercial strip mall with only rents as income, & the other is undeveloped land. Now that the company is winding down, they want to roll %ages of real estate into IRAs, one for each brother--maybe into Roth IRAs, but I don't think that impacts the question.

Assume we want to protect the IRAs and their owners by having each of the IRAs be a member of an LLC, with the real estate held by the LLC. How do we get the properties into the LLCs without a distribution of the property from the qualified plan? We can't distribute the real estate directly to the individuals, have them move the assets into an LLC, and then rollover the LLC membership interests into the IRAs--rollovers must be the exact property received in the distribution, or the proceeds from its sale (IRC Sections 402©(1)© & 402©(6)(A)), but cannot be cash or substitute property of the same value.

Any ideas? Or I missing something pretty basic?

[mbozek]

Why not establish an LLC under state law and have the IRA of each brother contribute a subscription amount equal to their % interest inth the RE. For Example, if the ownership is 45%, 20% and 35% the IRA of each brother would contribute $450, $200 and 350 respectively to the LLC and receive in return a certificate/share of ownership of an equivalent interest in the LLC. Thus A's IRA would have a 45% interest in the LLC, B's IRA would have 20% and C's IRA a 35% interest and the LLC would have $1000 in assets. The plan would then rollover the RE to the LLC after each brother elects a rollover of his interest in the RE. Each bothers interest in the RE would be equal to their interest in the LLC.Tricky part is getting all the paperwork done right as to the transfer of each brother's undivided interest in each property and titling the ownership of the RE in the name of the LLC.

[QDROphile]

"The plan would then rollover the RE to the LLC "

I don't get this step. The LLC is not something one can roll over to even if the LLC is owned by an IRA. The plan could transfer the real estate to the LLC. The transfer would have to be evaluated under prohibited transaction rules.

[J Simmons]

How does the LLC protect the IRAs, assuming that mbozek's suggestion works?

[mbozek]

"The plan would then rollover the RE to the LLC "

I don't get this step. The LLC is not something one can roll over to even if the LLC is owned by an IRA. The plan could transfer the real estate to the LLC. The transfer would have to be evaluated under prohibited transaction rules.

Why not?

[mbozek]

How does the LLC protect the IRAs, assuming that mbozek's suggestion works?

The LLC is used as a vehicle to permit holding the RE in an IRA whose the custodian does not allow direct ownerhip of RE because of liability exposure of the custodian for environmental or tort issues. Alternatives to using an LLC include a Corp or transferring the RE to a taxable trust in which the IRAs have a beneficial interest.

The choice of entity to hold the RE that would be acceptable to the IRA custodian depends on the protections offered under state law whch is why this is a complicated question. In some cases it is better for the plan to sell the RE and distribute cash to to the owners.

[QDROphile]

An LLC is not an eligible retirement plan. An IRA can own an LLC. An IRA can own real estate. An LLC can acquire real estate interests. Real estate can be rolled over to an IRA. Nothing can be rolled over to an LLC. The transaction that gets the real estate into the LLC cannot be a rollover. It has to be a purchase or a contribution in exchange for LLC interests.

I am uncertain about the ability to roll over undivided interests to IRAs for subsequent purchase by an LLC that is owned by the IRAs. Would it work to have the 401(k) plan form the LLC, acquire the real estate and then distribute and roll over the separate LLC interests to the IRAs?

[mbozek]

An LLC is not an eligible retirement plan. An IRA can own an LLC. An IRA can own real estate. An LLC can acquire real estate interests. Real estate can be rolled over to an IRA. Nothing can be rolled over to an LLC. The transaction that gets the real estate into the LLC cannot be a rollover. It has to be a purchase or a contribution in exchange for LLC interests.

I am uncertain about the ability to roll over undivided interests to IRAs for subsequent purchase by an LLC that is owned by the IRAs. Would it work to have the 401(k) plan form the LLC, acquire the real estate and then distribute and roll over the separate LLC interests to the IRAs?

So the LLC should be formed while the RE is held in the Q plan and the owners will exchange their ownerwhip of the RE for interest in the LLC that owns the RE and then the LLC will be spun off from the plan without taxation b/c all of the ownership is held in a 501a entity. The owners would then transfer their certificicates of ownerhip in the LLC to their IRAs in a tax free rollover.

[Guest Rajeev]

Sieve,

You can do a direct rollover in-kind from a qualified plan to an IRA (including ROTH conversion) provided that the qualified plan that has been established permits it, including during the termination of the plan. This in-kind rollover is applicable to all assets including Real estate or LLC's holding real estate, or any other asset.

While an establishment of an LLC is not a requirement to complete an in-kind rollover, it is good to have it for the reasons stated by mbozek.

The steps to be followed would be:

(1) Update the plan to allow for the in-kind rollover (if applicable)

(2) Have the IRA accounts for the participants established at the custodians that can receive the real estate

(3) Get the appropriate Title company and/or attorney to prepare all the documentation pertaining to the real estate as moving from the qualified plan to the IRA's including deed, title insurance, etc.

(4) Complete the in-kind rollover

(5) Change all the operations of the real estate to reflect the new ownership

Keep in mind, that if there is debt on the real estate, moving from a qualified plan to an IRA may subject the participants to UBIT based on UDFI, so it may be something to consider.

If you plan to put the real estate in an LLC prior to the in-kind rollover (for the reasons stated by mbozek), then UBIT may also apply based on UDFI (if there is debt on the real estate), and must be reflected on the K-1 of the LLC to the IRA

In this scenario, you do have to consider the following:

(1) Valuation of the LLC on an annual basis (note: different from valuation of the real estate)

(2) Correctly documenting in the LLC, the requirements of prevention of prohibited transactions, especially additional capital infusion from the qualified plan as well as IRA's as the LLC would be deemed as "plan assets", and the LLC Managers as plan fiduciaries

Hope this helps..