How to turn a 401(k) into real estate in 5 steps

Most traditional 401(k) plans do not allow participants to directly purchase individual real estate. Depending on your circumstances and your plan’s rules, you may be able to roll eligible 401(k) funds into a self-directed IRA (SDIRA) or, for qualifying self-employed individuals and business owners, use a one-participant 401(k), also known as a Solo 401(k).

These specialized retirement accounts can provide access to alternative investments, including:

• Single-family homes
• Multifamily rentals
• Commercial property
• Land
• Real estate investment trusts (REITs)
• Certain tax liens or mortgage notes

The investments available will depend on the retirement plan and its rules, so it’s important to understand your options before moving any funds.

2. Choose your investment path

Self-directed IRA (SDIRA)

• Allows certain alternative investments, including real estate
• Generally requires a specialized custodian to administer the account and handle transactions
• Can be funded through eligible rollovers from certain retirement plans
• Subject to IRA rules, including restrictions on personal use and transactions with disqualified persons

Solo 401(k)

• Generally designed for self-employed individuals or business owners with no employees other than a spouse
• Can provide investment flexibility depending on how the plan is established
• Offers potentially higher contribution limits than an IRA
• May allow certain real estate investments and non-recourse financing, depending on the plan and applicable rules

Pro tip: Retirement-account-owned property generally cannot be used for your personal benefit, and certain transactions involving you or family members can be prohibited transactions. Because the rules can be complex, consider consulting a qualified tax or financial professional before proceeding.

3. Roll over your 401(k)

If you are eligible to move funds from your 401(k) into another retirement account, the rollover process typically involves:

• Opening a self-directed IRA or Solo 401(k) through a qualified provider
• Confirming that your existing 401(k) distribution is eligible for rollover
• Requesting a direct rollover from your existing 401(k) plan when possible
• Transferring the funds without taking personal possession of the money

A direct rollover can help avoid potential taxes and penalties that may apply when retirement funds are withdrawn. Not every distribution is eligible for a rollover, so confirm the rules with your plan administrator and tax professional.

4. Determine how you’ll finance the property

Once your retirement funds are in an account that permits real estate investments, you can begin evaluating potential properties. Depending on your retirement-account structure and the type of investment, you may be able to purchase a property outright or use permitted financing.

This is where understanding your financing options becomes especially important.

If you’re purchasing an investment property with financing, a mortgage can allow you to preserve some of your available cash rather than using all of your funds toward the purchase. Keeping more capital available may give you greater flexibility for reserves, repairs, future investments or other expenses.

A mortgage professional can help you evaluate factors such as:

• Down payment requirements
• Investment-property loan options
• Interest rates and loan terms
• Cash reserve requirements
• Property type and occupancy
• Potential rental income
• Your overall investment strategy

Keep in mind that financing a property through a retirement account can involve additional restrictions, particularly when the retirement account itself owns the property. Work with your financial or tax professional and mortgage professional to determine which financing structures may be appropriate for your situation.

5. Understand the risks and rules

Real estate can provide opportunities for long-term growth and potential rental income, but investing with retirement funds also comes with additional responsibilities.

What to watch out for

Prohibited transactions: Using retirement-account-owned property for personal purposes or engaging in certain transactions with disqualified persons can result in significant tax consequences.

Liquidity issues: Real estate generally cannot be sold as quickly as stocks or other liquid investments if you suddenly need access to your funds.

Maintenance costs: Property-related expenses generally need to be paid by the retirement account when the property is owned by the retirement account, so sufficient funds should be available for taxes, insurance, repairs and other expenses.

Financing restrictions: Real estate owned by a retirement account may be subject to specific financing requirements, including restrictions on personal guarantees.

Tax considerations: Certain investments, particularly those involving debt financing or business income, can create additional tax-reporting obligations.

Is this strategy right for you?

Using retirement funds for real estate investing isn’t for everyone. It may be worth considering for:

• Experienced real estate investors
• People with enough retirement savings to make the costs and complexity worthwhile
• Those interested in building long-term real estate holdings
• Individuals who understand real estate markets or are prepared to work with qualified professionals

If you are considering an investment property, it’s also important to look beyond the purchase price. Your financing structure, down payment, monthly payment, reserves and potential rental income can all affect the investment’s overall financial picture.

How a mortgage can fit into your investment strategy

Using retirement funds doesn’t necessarily mean you have to purchase an investment property entirely with cash. Depending on the type of retirement account, property and loan, financing may allow you to leverage your available capital while keeping some funds available for other investment needs.

For example, an investor may use eligible funds for a down payment while financing the remaining purchase price with an investment-property mortgage. This can potentially allow the investor to purchase a property without tying up all of their available capital in a single asset.

The right approach depends on your financial situation, investment goals and the type of property you’re considering. A knowledgeable loan officer can help you understand your financing options and determine what you may qualify for, while your financial or tax professional can help you evaluate the retirement-account and tax implications.

Final thoughts

Using your 401(k) to invest in real estate may be possible under the right circumstances and retirement-account structure. When combined with an appropriate financing strategy, real estate can be one way to pursue long-term wealth-building and potential rental income.

Before moving retirement funds or purchasing an investment property, talk with your plan administrator and qualified financial or tax professionals about the rules that apply to your situation. With the right team and a clear understanding of the numbers, you can make a more informed decision about whether real estate belongs in your long-term investment strategy.

If you are ready to take the next step and want to learn more, reach out to one of our knowledgeable loan officers in your area.