Investing IRAs in real estate often leads to more risk than reward
There’s nothing simple about investing an IRA in real estate. But people do it because it offers an alternative to traditional retirement accounts that comes with the potential for high reward. Potential investors should be warned, however, that there can be more negatives than positives associated with these types of investments.
1. The IRS requires a qualified trustee or custodian to administer the assets. This person will typically handle transactions and manage paperwork and reports.
2. The options for a qualified trustee or custodian are limited. So far, only about two dozen companies in the U.S. can act as custodians of self-directed IRAs.
3. You’ll need to hire a property manager. A third-party property manager will make sure you adhere to any applicable landlord-tenant laws and avoid illegal transactions. Typical commissions are equal to the first month’s rent and 6 to 10 percent of the monthly rent thereafter.
4. The rules for self-directed IRAs can be tricky to follow. Did you know something as simple as mowing the lawn of a property you own through your IRA could put you on the wrong side of the law? It’s true: IRA owners are forbidden from engaging in certain transactions at their property.
5. The penalties are high. Running afoul of the law makes IRA owners more susceptible to losing the IRA’s tax-favored status. If that happens, taxes and penalties could be triggered.
6. It’s cash only. IRS rules require contributions to an IRA to be made in cash, not services.
Did you know something as simple as mowing the lawn of a property you own through your IRA could put you on the wrong side of the law? It’s true: IRA owners are forbidden from engaging in certain transactions at their property.
1. They offer diversity. Self-directed individual retirement accounts provide investors with options aside from the traditional stocks, bonds and mutual funds that make up most retirement plans.
2. They come with distribution options. Investors can choose to take distributions from their real-estate IRAs in kind, by having the account administrator deed a percentage of the property to them.
3. They can set you up for your later years. Done correctly, within the rules and regulations, real estate can fund your retirement. It’s high risk, but high reward.
Running afoul of the law makes IRA owners more susceptible to losing the IRA’s tax-favored status. If that happens, taxes and penalties could be triggered.
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REAL ESTATE BRIEFS
Don’t let the end of a home-equity line of credit sneak up on you
The terms of home-equity lines of credit, or HELOCs, typically come due 10 years in, at a time at which many homeowners are unprepared for the fact that their monthly payments are about to go up significantly and sometimes double.
HELOCs are secured by a mortgage, require only interest payments and can be used to consolidate debt, fund major expenses, etc. But after the initial 10-year period the principal becomes due. At that point, homeowners can choose to pay off the balance, refinance it into a first or second mortgage or make monthly payments of principal and interest, typically for a 20-year term.
Homeowners who are unprepared may wind up defaulting, prompting the bank to take legal action to collect the balance or to begin the foreclosure process.
It is best to consider your options up to a year in advance of the end of a HELOC’s terms. For those with negative equity, it may be difficult to refinance. But the lender will be able to walk a homeowner through the options available, including a mortgage modification.
For homeowners planning to refinance the loan or to take out another, shopping for rates sooner rather than later can give banks time to compete, offering more attractive rates to get the business.
What to consider before backing out of an offer
Standard real-estate contracts contain inspection and mortgage contingencies that allow buyers a limited amount of time to back out of the contract and receive a refund of their deposit. They also spell out the terms of the deposit and where the money is held in escrow, whether with the buyers’ agent, the title company, an attorney or the developer.
But once all contingencies are satisfied, buyers are locked in and attempts to back out could mean losing earnest money and potentially having to pay brokers’ commissions. That’s because even if the seller lets the buyer off the hook, he or she may still be liable to the broker for the commission. Contracts state that the commission is due when the broker finds a ready, willing and able buyer. Some brokers will work with the seller in this situation, but not all will.
If a buyer truly does want to back out of a deal, even if he can’t do so under the terms of the contract, he can try to negotiate with the seller for the return of at least part of the deposit.
Especially in a hot market, where prices are rising and the homeowner can potentially get a higher price for the home, there might be a chance to come to an agreement.
One thing you can do in advance is is to try to make the contract contingent on the mortgage actually being funded by the lender, which then extends the contingency all the way to the closing. You can also try to specify the mortgage rate, for example saying that it can be no more than 5 percent, instead of the prevailing rate.
Some property owners will require large deposits, as high as 35 percent, to try to prevent potential buyers from backing out, but when the deal isn’t right there are still options you may be able to try to avoid buying a property that ultimately isn’t right for you.
What you need to know about paid leads on property-search sites
Popular property-search site Streeteasy.com recently rolled out a change to its Premier Agent program for real estate agents that is confusing potential buyers and angering brokers.
Until recently, the site featured the name of a property’s listing agent and company prominently, making the main contact clear and providing a direct “contact agent” button. But now when a potential buyer clicks “contact agent,” the message instead might be sent to a broker who has paid to receive referrals for a specific zip code.
The listing broker can still be reached, but the process is more convoluted. Now users must click on a less prominent button that says “seller’s agent info.” The name of the listing broker and firm are much further down on the page and harder to find.
So, who are these “Premier Agents” and why are you directed to them instead of to the listing agent? These agents pay a fee set through an auction process and are typically looking for clients in particular areas.
The Real Estate Board of New York, which represents the brokerage industry, has filed a complaint saying the new program is misleading and violates rules designed to prevent consumer confusion. The board is asking the state to consider the legality of the program.
In the meantime, consumers can continue to contact listing agents, but will have to look harder for their information.
Bank slapped with fine after failing to modify mortgage loan terms
In a move called “unprecedented in its magnitude,” a bankruptcy judge recently opted to levy a $45 million fine against Bank of America Corp. for its treatment of homeowners who had requested lower mortgage payments.
If it stands, the fine would be the largest punitive damages award for violations of the bankruptcy law’s automatic stay rules, which ban lenders from advancing foreclosures and taking other actions.
The case highlights the importance of consulting a lawyer in any situation involving requests for loan modifications or in any case involving a foreclosure.
In the ruling, the judge said bank representatives mistreated California couple Renee and Erik Sundquist when they were trying to prevent their home from going into foreclosure. The couple owned a construction business that closed in 2008 during the economic downturn. At that time, they borrowed nearly $600,000 to buy a home.
The lender was later taken over by Bank of America, but not before the couple received a promise from a loan official that they would be able to request lower monthly payments. When Bank of America officials said they wouldn’t consider loan modifications for customers who were current on payments, the couple stopped making payments on the home.
They went on to make 20 loan modification requests that were either “lost,” denied without a “comprehensible explanation” or declared insufficient for a variety of reasons. The couple wound up filing for bankruptcy in 2010.
In the ruling, the judge asked the couple to donate most of the $45 million award to five law schools and two legal-aid nonprofits. He also awarded them more than $1 million in damages.
Reverse mortgages offer homeowners cash, but with a price
A reverse mortgage allows a homeowner to convert part of the equity in a home to cash without having to sell the property. The cash may be paid in installments or a lump sum, so typically you don’t need to pay anything back as long as you live in your house.
Factors such as age, the value of the property and how much remains on the mortgage all affect the amount of money a homeowner may borrow through a reverse mortgage.
There are important things to consider. Owners typically must remain in the home for at least 5-10 years to make a reverse mortgage economical. In addition, because they’re deferring repayment of the reverse mortgage, the amount they owe will grow substantially over time. Interest charges are added to the loan each day it’s held, so it’s possible the reverse mortgage could grow to equal the value of the home.
People who take out reverse mortgages are also still responsible for property taxes, insurance and maintenance costs. You must be prepared to pay for some of the fees involved in the processing of a reverse mortgage loan, which can include an origination fee, closing costs, a mortgage insurance premium and a servicing fee.
A reverse mortgage loan must be repaid in full when the owner dies or sells the home. Repayment requirements may also be affected if the owner fails to pay property taxes or hazard insurance, allows the property to deteriorate, or doesn’t live in the home for 12 consecutive months.
Consumers interested in obtaining a reverse mortgage are advised to work with a Home Equity Conversion Mortgage (HECM) counselor who can help answer questions regarding eligibility, financial implications and other alternatives. HECM housing counselors are available free or at a very low-cost.
It is advisable to contact a real estate lawyer to review any agreements before signing.