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IRA Prohibited Transactions

Buying real estate or real estate-related assets in IRAs continues to grow in popularity, but there are many pitfalls that await a would be investor that chooses this unique way of investing. Knowing the rules, however, is critical to keeping out of hot water with the IRS. In this article, we’ll cover just one of the dicey areas of IRA investing – Prohibited Transactions. For instance, IRS Code 408(a)(3) states that you can not life insurance contracts, but other sections relate to real estate related investments.

The first thing to understand is the definition of a “Disqualified Person”. A Disqualified Person is basically the person that owns the IRA, their spouse, their children grandchildren, parents, grandparents, and any fiduciaries and service providers that are connected with the IRA. Disqualified Persons can not benefit from the IRA in any way, shape, or form. For instance, let’s say that John’s IRA purchases a beach condo to rent out to tourists. During a time when no guests were using the unit, John’s daughter decides to stay there for the weekend. That is a violation of IRS rules because John’s daughter is a Disqualified Person.

There are also certain investments that an IRA can not make. Although investment real estate is perfectly fine for Investment Real Estate, Notes, and you can lend in your IRA, but can not purchase such items as antiques, collectibles, stamps, gems, precious metals (but Gold, Silver, and Platinum are an exception), wine, and coins.

So what happens if you mess up and perform a Prohibited Transaction? Well, your IRA is now no longer an IRA. You will have to treat the amount in your IRA as a distribution and pay the appropriate taxes and penalties. If in doubt, don’t risk it. It’s not worth the cost. Of course, before you make any investment through your IRA, you should always consult your tax adviser to understand the ramifications of such an investment.