Using plan assets to form LLC to buy Real Estate

[jmrsai]

PS prototype plan, Dr. & 4 participants, $715k total pooled assets, Dr's portion is $700k. No contributions in a few years. Dr. wants to use $600k of plan assets plus some personal assets to form an LLC with a partner and then the LLC will buy a local strip mall. Partner's funds for LLC will come from his IRA. Dr. and partner are looking for income from the mall, of course. Okay to do? Good idea/bad idea? Small plan audit issues? Thanks for any and all comments/suggestions.

[ESOP Guy]

Off the top of my head the following issues come to mind:

1) Is it really prudent to invest 84% of the plan's assets into a single investment. After all you say it is a pooled plan so you are investing not just the Dr's money but the rank and file's money. A trustee has a fiduciary obligation to invest in a prudent manner. This doesn't seem to come close to that idea. If you say it is just the Dr's money you have a discrimination issue of why he gets to direct his investment and the others don't

2) What happens if the investment goes negative cash flow and the plan doesn't have the cash to cover its share of the needed investment? Now he has to put in a contribution.

3) There can be small plan audit issues

4) You would need to review this for PT issues.

5) You would need to review if there are any UBIT issues

6) Don't know how old the Dr is but what happens when he needs an RMD is he going to be allowed to take all the remaining cash out?

7) Are they really going to value it every year? If not, how do you pay one of the rank and file members their correct benefit?

8) Will there be enough cash if people start asking for participant loans if allowed?

You can do searches on this board and read horror stories from people who do this kind of investment and run out of cash or can't sell the investment fast enough to meet various plan requirements.

I will go on record as saying if they were my client I would advise them to not do this.

[david rigby]

There are probably many horror stories, including some shared on these Message Boards, about investing QP money in real estate.

[QDROphile]

The participation by a plan participant (doc) in the LLC with personal money needs a really hard look for prohibited transaction issues, including those in the Flaherty's Arden Bowl v. Commissioner cases, even if the particpant is not a named fiduciary. The ability of the doc to effect the investment as a practical matter would probably make the doc a functional ERISA fiduciary anyway. PTs possiblle even without the personal money and it is a terrible idea in any event. This is the sort of circumstance that make physicians the butt of more than half of the viable jokes among ERISA practitioners. There are not that many viable jokes.

[jmrsai]

Thank you all for reinforcing my thoughts.... and giving me a couple that I hadn't thought of too! I think I'm going to recommend he terminate the plan and roll his funds to an IRA. That way if he's hell bent on doing this, he can use the IRA funds and I won't care. He hasn't put money into the plan in a few years anyway. He's 54 and during our conversation about this told me that he doesn't want to work anymore... wants to find a way to make money where he doesn't have to be a doc anymore. Another circumstance that makes physicians the butt of the other half of the viable jokes among ERISA practitioners, QDROphile! lol Thanks again. I've got a good list now to convince him he doesn't want to do this.

[K2retire]

I'm dealing with a DOL audit of a pooled plan that held two mortgages on unrelated real estate. Between them, they made up 30% of the plan's assets. Even though the trustee was able to point out that his plan increased in value in 2007 and 2008 because of these high interest loans, the auditor is NOT amused. (And we don't have any PT related party issues.)

Talk them out of it if you can.