1143: Housing Bubbles Bursting & Creative Self Directed IRA Solutions with Edwin Kelly

When you're in your car and you're listening to that podcast, you're not really thinking about the fact that people are real and accessible on the other end. Maybe you've reached out and you've gotten contact with an investment counselor. Again, they, I wouldn't say they have star Persona, but they're really not these tangible, real people. When you go to these events, all of these people become real. You get to look them in the eye and shake their hand and then you're surrounded by like people that have a passion for real estate and it all becomes more real and it creates a sense of community. And so I would really strongly encourage people that have more than a casual interest about real estate that are wanting to do more than just be that passive investor through their investment counselor. And like you said, that's great if you're doing that, but if you have an interest to do more. I really do strongly encourage people to come out and be in person. The experience is very different from when you're listening on the podcast and when you're in person hearing the conversations.

Welcome to the Creating wealth show with Jason Hartman. You're about to learn a new slant on investing, some exciting techniques and fresh new approaches to the world's most historically proven asset class that will enable you to create more wealth and freedom than you ever thought possible. Jason is a genuine, self made multimillionaire who's actually been there and done it. He's a successful investor, lender, developer and entrepreneur who's owned properties in 11 states, had hundreds of tenants and been involved in thousands of real estate transactions. This program will help you follow in Jason's footsteps on the road to your Financial Independence Day. You really can do it. And now here's your host, Jason Hartman with the complete solution for real estate investors.

Welcome and thank you so much for joining me today. This is episode 1143. 1143. And of course, this is Jason Hartman. As we dive into some more creative approaches to the self directed ira, the SDIRA and other qualified plans, whether it be a solo k, solo 401k, whatever you want to call it, we will talk with one of our upcoming Meet the Masters speakers, Edwin, who is here to chat with us about that today. Then Tom Wheelwright, who will also be speaking at our upcoming Meet the Masters event in Newport Beach. We just had him on the show recently and he talked about his ideas on self directed IRAs or really not self directed IRAs, but IRAs in general or retirement accounts. And I'll tell you, you can make Them a lot better, A lot, lot, lot better by self directing those plans. So make sure you, you take advantage of that opportunity. I did so many, many years ago and it has served me well. I use my self directed IRA to do all sorts of things. I can make loans with it. I've purchased a few different properties in my self directed ira. More than a few actually. I purchased some that I was just doing some trading on. Those were the land contract deals that we were talking about a couple of years ago. One of our Meet the Masters speakers, not last year but the year before last was they're talking about the land contract opportunities and those created some capital gains for me but they really didn't because I did them inside of my self directed ira, my SD IRA plan. So that's very, very helpful and that is something we will talk about today. Remember, the single largest expense any of us have in our lives is tax. Tax is the single largest expense and we must learn how to mitigate the cost of taxation. Of course, income, property is the most tax favored asset class in America. How great is that? It is just wonderful. Okay, let's talk a little bit about the housing bubble times. They are a changing folks. Now National Mortgage News published this article recently and it talked about how some of these less affordable cities have prices that are out of whack with the historical norms and how housing affordability has declined pretty dramatically in some of these markets. And when I first read the article, I thought, well, well, you didn't even mention the markets where things are really bad. And I had to go back and look at the title of the article. It said 12 cities on the verge of a housing bubble in 2019. It didn't say 12 cities that are already in a popping housing bubble or where the bubble popped a year ago. And those would be the obvious suspects. Those cyclical markets that we don't like, that we don't recommend, that we really don't touch. Of course, the west coast of the United States, my old hometown of Newport Beach, Los Angeles, Irvine, La Jolla, you know, all up and down the west coast. Really up, way up to Seattle and really way up to Vancouver. Why not just go? And I'm not talking about Vancouver, Washington. I'm talking about Vancouver, Canada, the poster child for bubble housing markets. But those bubbles already burst. So hey, that's old news. Look at what's going on in New York City.

Crash, crash, crash. Right. So the real estate market is definitely changing. That is true of the cyclical markets. But we really do have kind of the tale of two cities, to use the old cliche. And it's really a tale of, well, 400 metropolitan statistical areas or MSAs. Not exactly 400, but close to it. And as we look at those around the country, this article was interesting to me because it talked about a couple of different factors. The median sales price, the wages, the annual wages, and I assume that's an average, whether they're up or down in that market, the change in those wages, and the gap between the growth in home prices and wages. Okay, so what is that gap? And then the affordability index. Now why does it talk about both of those things? Well, because of course, the gap in home prices and wages isn't that meaningful necessarily. Why not? Well, because people finance homes. And so what is the real factor that determines whether or not they can afford that property? Well, it's the interest rate on the mortgage. So one is the home price versus wages. Not very meaningful unless you know the interest rate and what that mortgage payment would be. But then you have the affordability index. And the affordability index is comparing the payment versus the wages. Okay, so those are different things. Home prices, not that meaningful. Home mortgage payments, very meaningful. Okay, so we live in a credit based economy and that's what's meaningful. So just to highlight a couple of these markets, really only one of them surprised me and that one that surprised me was Columbus. Yeah, I was kind of surprised at that one. Actually, none of the others really surprised me very much. I mean, to one degree or another. You know, Ogden, Las Vegas, Midland, Ann Arbor, Hilo. Yeah, we even got Hawaii representing here, Mount Vernon, Flagstaff, now Columbus. That one does surprise me. Minneapolis, Hilton Head, Providence or Washington. Right. Nothing there really surprises me too much in terms of being a potential bubble. Except Columbus. I didn't think Columbus would be in the same category. We look at Hilton Head and we see prices are up 10%, wages are down 1%. The gap between home prices and wages, 11 percentage points. Housing affordability index at 95. And when it's at 100, that means housing is very unaffordable. Okay, so I won't go through all of these with you. I will go through the place I lived for a brief time. I lived there for a year and a half. And that of course is lost wages. Nevada, the very attractive place for Californians fleeing oppressive tax rates to live in. I personally never liked Las Vegas very much. I didn't like it when I lived there. I didn't like it before I lived there, and I didn't like it after. I moved from there. But you know, hey, if I lived in the burbs in Vegas, I might have liked it better, you know, certainly a lot of my friends live in Henderson, a few live in Summerlin. They like both of those areas quite well. Just depends on your taste. I mean, hey, listen, Vegas, I'm not a fan, but it has a few advantages. It does have a good formula. Lots of entertainment, obviously, very convenient airport. It's got a few things going for it. And hey, it's a quick four hour drive to Los Angeles. You know, not bad if you don't have to pay any taxes and you're fleeing the oppressive 13.3% tax rate in California. But what happened in Vegas? Median sales price $270,000, up 13%. Annual wages 48,000 and change, up 2%. Gap between growth in home prices and wages, 11 percentage points and the affordability index at 82. At the opposite end of the spectrum, you know, Midland, Texas. Now let's talk oil here, folks. It's the only reason I mentioned this one. Midland, 291,000. Median price up 16%. Wages, hey, this is pretty good. $72,000. If I'm rounding correctly, that's up 6%. The gap between prices and wages, 11 percentage points. Housing affordability at 82. Nothing else too surprising on this list, really. Nothing too surprising. Well, Columbus, remember I said I was surprised about that one. Median sales price $285,000, up 17%. Annual wages only up 2%. Gap, of course, 15 percentage points between the two. Affordability index at 87. So there you go, take it for what it's worth. I don't think we have anything to worry about in the markets we like and, and really have mostly consistently liked for many, many years now. And those are those good prudent, linear markets, the boring places. Hey, I thought Columbus was one of those, but maybe not so much according to this article at least nothing too surprising there. But do be careful because times they are a changing and we will keep you informed every day, five days a week, not on the weekends, but five days a week here on the show. So that is something to know. All right, get your tickets for Meet the Masters coming up in. What do we got, slightly less than three weeks here. Come and join us in Newport Beach, California for that. And without further ado, let's talk to one of our speakers and that is Edwin, who will be talking at Meet the Masters about self directed IRAs.

Join us March 23rd and 24th for the 2019 Meet the Masters of Income Property.

Let's break this down and look at some of the strengths of income property as an asset class.

I found that this event is really helpful because I'm totally a newbie to real estate investment and so I picked up so much information.

One of the great things about it is that it's so fragmented. Right. Embrace the fragmentation.

I've actually been learning a lot about.

Tax benefits to real estate and a lot of I've been investing actually well over 10 years now and I learned a lot of new things today.

The other advantage of this weekend is networking. Meeting new property managers, meeting new area.

Specialists and seeing the product they have.

To offer that changes year by year.

Register now@jasonhartman.com masters it's my pleasure to welcome Edwin Kelly. He is founder and CEO of Specialized IRA Services and I believe it's Specialized Trust company. And he's got some unique strategies, some innovative strategies on self directed IRAs. Of course, we've talked about this topic many times over the years, but it's always nice to hear some new and unique angles and case studies on the topic and that's what we're going to do today. Edwin, welcome. How are you doing, Jason?

I'm doing great. Thanks so much for having me.

Where are you located?

Well, we are located in New Mexico of course. Right now I am sitting in the wonderful, beautiful Washington D.C. area.

Ah, fantastic. You were talking to me a little bit off air about a case study. And you've got a bunch of these, by the way, case studies of clients that you've helped over the years do some unique and innovative things with their self directed IRAs. Right?

Yeah, yeah, yeah. You know, that's one of the things that I feel kind of there's multiple self directed custodians out there. But one of the things that I think separates us from some of the others that our clients find beneficial is that we offer a lot of support services. A lot of people use the word coaching. I don't necessarily like the word coaching, but you know, we work one on one with clients to help them actually create a plan, connect the dots, implement the strategies and move towards the goals that they want. And so in doing that, for well over a decade I've worked with, I don't know, I should have probably counted, Jason. I never kept count. But I mean, hundreds, if maybe not approaching a thousand different clients on a one on one basis at this point. And so it's all about applying these accounts and the benefits of them to help people just achieve their goals. So yeah, lots of Work in case studies.

Okay, so before we go into some innovation in terms of strategies here, we gotta ask the basic question for the five listeners that don't know what is a self directed ira?

Good question. So a self directed IRA is an IRS approved vehicle that allows you and I to get complete control over our retirement account, invest in anything allowed by the government, make money and protect it, tax protected as we're growing it, and in many cases, depending upon the type of account you use, spend all the income, all the profits, all the capital gains, 100% tax free.

Okay. That is just different from the basic plan that the vast majority of people are enrolled in, where they're not self directing, they're not making the investment choices within their plan. They have a plan, but you know, they've given that over to usually the Wall street crooks who are, you know, managing that plan for them. And as I always like to say, Wall street does a great job of making sure the middle and upper middle class gets poorer every day.

Yes.

Yeah. And they get richer. Wall street gets richer. Well, they get.

Yeah, somebody's making money, it's just not the clients.

Yeah, right. Well, you know the old question, right? Where are all the clients? Yachts.

Yeah, exactly.

Yeah, yeah. Really sad. Really sad. Okay, so you can self direct into what kind of assets?

So when we talk about self directing, you can invest into virtually anything you can imagine. And I always say if you can do it outside the retirement account, you can pretty much do it inside the retirement account. That being said, what are the most common investments we see in self directed accounts? Right now? There's a few that we see very commonly. Real estate is a very big one. And we say real estate typically buy and hold.

Right.

Because that's one of the benefits of retirement accounts is that you want to create a future income stream which rental properties work terrific in. So that's one of the investments that we see pretty commonly. Another kind of spin on that is that people are partnering up and going in and buying, say multi units or into apartment complexes together. And so they're owning a portion or buying an interest in a syndication in commercial real estate. Another thing that we've seen a lot of is a lot of note investing and private lending between investors that seems to be very, very popular and successful right now for many people. Then, you know, beyond that, it's interesting because cryptocurrencies have caught on and caught a lot of people's interest. And so we see more and more interesting cryptocurrencies, but traditional investments that people have purchased inside of self directed accounts range from private equity deals, which is great for entrepreneurs and new business owners trying to raise capital to start a business or to fund their business into a new phase. Private equity is an angle to people actually buying and holding physical precious metals in their retirement account to hedge against the dollar or, you know, inflation and those kinds of things. And so that there's a lot of different cool ways that people are investing their assets. And it all comes back to really what's their key objective.

Okay, great. Well, tell us about some unique strategies.

So I'll give you a really cool one. In fact, this was one that we worked out with a client just about a month ago. It was at the end of the previous calendar year in December. So what we did was she has most, and this is not uncommon. So here's, here's a pretty common scenario. A lot of people, you know, we haven't talked about the difference between traditional and Roth. I'm going to assume that people know the difference. If not, we can talk about that at Meet the Masters so that people really understand the benefits of the Roth or Roth based account. But what happens with most people is that most people have their money in a traditional or tax deferred account because they've been around longer. And so we have one client, Shayna, and what happened with Shana was she was going to buy a property from a turnkey investor. So she was going to put about $40,000 down and finance the rest. The interesting thing about it is, is that most of her money is in a tax deferred account. And so we sat down and I kind of went through the math with her and I showed her and I said, you know, here's a pretty interesting thing. I said, you've got this in a traditional right now. I said, if you're going to buy a turnkey property, and she hadn't identified the property yet, but let's just say that the property was going to be worth $80,000. That was the price she was paying. So 40,000 down financing 40. I said, you're going to double your account value like literally in one month and you're going to generate income off that for 20 to 30 years in retirement. So I said, that's a big bill, right? When you think about distributing that from your tax deferred account. But I said, if we convert, then you convert. All you need to do is convert 40,000. You don't have to convert your entire account. So let's convert 40,000 to a Roth and now finance and buy that property in the Roth. So you just doubled your account value. Right. So it went from 40 to 80,000. So effectively you have a $40,000 gain which you'll never, ever, ever pay taxes on. And that assumes no appreciation in the property at all. And every dime of income that you generate, you know, over 20, 30 year period in retirement, you'll get to spend 100% tax free. And so we, you know, we did the math and we looked at the break even, and the break even in terms of the conversion just on 40,000 was, was a very, very short time frame. I think it was about three years, if I remember correctly. So there's all kinds of little cool things that we can do to really help somebody maximize their income, minimize their taxes and make the right terms of really dialing this stuff in.

Yeah, good stuff. So allude to a couple other strategies here, if you would, so that, you.

Know, that one is a conversion strategy. You know, one of the accounts that we use more and more with clients when they qualify is the Roth Solo 401K. And you'll hear it called different things and individual.

A solo K. I have one. So a solo k. A solo 401k. Yeah. A bunch of names.

Yeah, yeah, it goes by a lot of names, but that's one of the more popular accounts we have right now because there's so many cool benefits with these accounts and things that you can do. But as an example, we set up an account, a 401k for a client, and his name is Rick, and he's out of the New England states. Now the interesting thing is that Rick is just getting into real estate investing, so he's kind of new to it. But one of the challenges he had, and what a lot of people don't realize is that you can reap a lot of benefits from the retirement account today. And so one of the things that Rick had a challenge with which some people run into, is that he had run into a cash flow problem. He got into a situation where he racked up some debt and between the credit cards and a car payment, you know, he was spending more than he was bringing in every month. It hurt his credit scores when he's going out and trying to buy real estate. Right. The banks were quoting him higher interest rates or, you know, that, that kind of thing. And so one of the things that we did with Rick, which is pretty cool, is that we structured a 401k loan. So one of the advantages of 401k.

Is that's borrow against it. Right, right.

You can't borrow from your own IRA, but you can borrow from a 401k, which is one reason why we'll use those accounts. So here's the really cool thing about it, is that we borrowed money from the. It was a little over $20,000. We borrowed money from the 401k to pay off the car and pay off the credit cards. Now the first thing that happened was that we saved him about $6,000 in taxes and $2,000 in penalties because the only other way he could have paid off that debt was to take a distribution from a retirement account. And because he's not 59 and a half, he would pay taxes and penalties. So that was the first one, is that he avoided giving $9,000 to the IRS, who quite frankly, does not need our money. Right. And so that was the first win. The second win is that he completely restructured the debt, eliminated the credit cards and eliminated the car payment. He increased his cash flow by $543 a month because the payment on the 401k loan was $543 less than he was paying on the credit cards and the car. So he freed up $543 in cash flow positive a month. The other thing that happened is that he went back into savings mode because there's an interest rate attached to that loan, but he's paying it back to his own account. Because you borrow it from yourself. Right. If you're borrowing from your account, so you pay the interest back to yourself. So now he's actually going to save an additional $3,800 over the course of that five year loan versus saying paying $9,000 in taxes in a distribution. Right. So. So he comes out way ahead.

Your own bank. Right. That's basically what you're doing here.

Yeah. But you know what? One last benefit to that little strategy that we did for him was the fact that his credit score bounced up about 100 points. And one of the reasons why that is is because the credit utilization. Right. Came back in sync.

It went down, right?

Yeah, yeah, it came back in sync. And the thing is, is that with a 401k loan, nobody knows you have it.

Right.

It's not reporting.

Right, Right. Okay, so just to back up a little bit for some of the listeners, so part of your FICO scoring, your credit score, which I've talked about on other episodes, is your credit utilization. So in other words, if you have one credit card with a $5,000 limit, another one with a $10,000 limit, you start to use more and more of that credit, or if you've got, you know, more and more borrowing from a home equity line or whatever, whatever lines of credit you have available creditors, you know, that might lend to you, they want to see you using a fairly small amount of that credit because, of course, that's lower risk. You know, you're not going to skip town or file BK when they've got a bunch of money lent out to you. But if they see that utilization high, in other words, you've got a couple of cards with, say, 25 grand total and you've borrowed 22 against them or spent 22,000 against them, you've only got 3,000 left between your credit limit and the amount you've effectively borrowed, then your utilization is high and the credit scoring doesn't like that. So when you borrow from your own solo K that's not reported to a credit bureau, you're borrowing from yourself, basically.

Exactly, yeah. I mean, so it's a beautiful thing. So for people who are looking to restructure, impact their credit again, 401 is a way that you can use that today. Right. To get benefits today. It's not just about retirement.

Okay, good. There's some really good creative strategies you can use. What are some of the sort of the FAQs that a lot of people approach you with, Edwin, and you know, some of the answers to those. I know you'll elaborate on these when you're speaking at Meet the Masters coming up, but just go over any of those that you.

Yeah, and we'll obviously allow plenty of time for Q and A because usually when we get up and talk about this, so there's a lot of questions that come up. So we'll be at the event obviously the whole time and looking forward to meeting everybody and answer all the questions that come up. One of the questions that always comes up, and it's interesting, is that people think that self directing, and if you're new to self directing, like, you may be aware that it exists, but you may not have done it yet. You know, people often ask, you know, I've heard that it's complicated. I've been told by my financial advisor I shouldn't do it because it's complicated and I could make a mistake. You know, the reality is, of course.

Your financial advisor is going to tell you that because they want you to keep your money in those crappy Wall street investments they sell.

As far as I know, that's the only real segment I've ever heard that.

You know, how Coincidental.

Yeah. So here's the fact, because people, you know, they say, hey, this, you know, I've been told it's complicated. The reality is it's very, very simple. And in fact, it's three steps. And so, you know, the one way that I explain the self directing process is, Jason, I call it my triple D process. And so the first step is decide that you want to take control of your retirement account and self direct. And once you decide that, you establish an account which takes all of 15 minutes. The second step in this process, the second D is deposit. You deposit money in the account. And so the reality is, you know, there's a few different ways you can deposit money. You can contribute money right from your earned income, you can transfer money from another ira, you can roll over money from. That's the term that's typically used, rollover from a previous company sponsored plan like a TSP or a 401k or a 403b, and you have money in the account. And then the third and final step is to direct that into an investment that you choose. And the reality is that a lot of people get concerned about rules and regs. But I'll be honest with you, most of the clients that we see putting together transactions really have virtually no concern. And one of the reasons why is that they're working with other professionals, which is a great way to invest your self directed account to get those investments done. So as an example, if someone is investing in a turnkey property, it's virtually impossible to trigger any kind of problem in the retirement account because you have a professional investor, a corporate acquiring the property, rehabbing the property, finding the tenant, managing it through the entire process. So the self directed investor reaps all the benefits of self directing and buying real assets like real estate, and yet they don't have any of the work or the time involved or, you know, any of the potential risks in terms of rules and regs because they're not actively involved in the rehab or the management of the property. So it's really not complicated at all. And it's very easy to get into and start having a lot of success with.

Yeah, makes sense. Okay, good. What is the cost to do this? You know, I found this to be pretty different. It seems to vary a lot. Edwin?

Yeah, there's various options. If you look at what Wall street firms charge, they typically charge about one and a half percent on average on assets. Right. So on $100,000 account, just to give a perspective, somebody might be paying about fifteen hundred dollars A year. Right now they could be paying more, they could be paying a little less. But the 1500 or one and a half is about the average. So, you know, what would it cost to have a self directed IRA if you had $100,000 in your account? Well, again, depending upon some of the options that the client elects and what they do, probably an average range would be about $600 a year. So one of the, one of the other benefits to self directing is that clients instantly save money on fees when.

They self direct versus, you know, with a typical financial institution. What are you saying? That might Compare to maybe 1 1/2% where they're spending $1,500 a year in that, Right?

Yeah, exactly. So people typically save at least half, typically at least half on fees versus staying on Wall Street.

But what if they have that money in a, in LLC that they set up within their ira? This is kind of the discussion about what they call checkbook control, where you can really, you know, run the LLC inside of your Iraq.

There's many custodians out there that don't like. And we were talking about this off the air too, right? Many custodians don't like LLCs inside of retirement accounts. So they don't like that term ira, checkbook or checkbook control. Our philosophy is specialized. My philosophy has always been one of the big benefits of self directing is that you, the client, get to choose what's best for you. So as long as it's not prohibited, right in the rule book, we basically allow a client to do it. And so if you want to set up an LLC and hold assets in an LLC or any other type of legal entity that's not prohibited in the retirement account, we allow those arrangements. Again, I think that's something that clients should be free to use. And there's times where it's very appropriate to use an entity inside of a retirement account.

Does that save them on fees though? Do they have to pay the fee on everything within the llc or is that sort of considered like a flat fee for that entity?

Again, it kind of depends on the options that the client chooses. In some cases, it can save a little bit on fees. It doesn't necessarily save a ton on fees, but it can save some. And that's also a relative thing. And here's what I mean by that, is that if you have an LLC in California, right? Well, gee whiz, I mean, what does California charge?

They're gonna charge you $800 a year just for the privilege of being in The Socialist Republic. So you don't want to set it up in California, the least business friendly state in the country, but say you have an LLC in a more desirable state. You know, we're not worried about the state fees. I'm just talking about the fees on your end.

Right. And that's why I say, I mean, you know, somebody might save 50 or 100 bucks a year if they had an LLC. But that's why I say it's usually not substantial savings. That's why I was just saying the thing about the state fee, because like, depending upon, you know, what the state fee is, you may or may not. Here's the thing. I tell people there's reasons to have an llc. If you're worried about fees. You're probably not going to save that much money having an llc. So really the considerations would be the type of transactions you're doing. Are you concerned about asset protection? Here's a great example. I have clients. In fact, it's very common because we teach this. We'll speak more about this at the Meet the Masters. But there's several deal structures that people are not aware of. But one of them is partnering. That's pretty common, particularly between spouses or among family members. So let's just say you have two family members. They want to buy a turnkey property, but they don't have all the money to buy it in one account. Well, they can actually partner those two accounts. The challenge is that when you partner those two accounts, they have to split the income, they have to split the expenses between the two accounts. That can be a little bit cumbersome if you're talking about issuing two checks or receiving two checks. Right. From the property manager. So the way to clean that up is to set up an entity and have each account be a member of that entity. And then the money goes into that entity's bank account. And now you're back to one name on title, which would be the llc. Right. And all the expenses and income are received again by one entity. And then at the point that, you know, the client wants to distribute money to themselves, they never spend it from the llc. They distribute it back to the retirement accounts and then request a distribution from the retirement account. Like I said, there's places where LLCs make a lot of sense, particularly in transactions like that.

Yeah, very interesting. And you got to be careful because you can run afoul of this and you don't want to do that and create a taxable event for yourself. Of course. Right, Yep, exactly. Good stuff. All right Edwin, we'll look forward to seeing you at our upcoming Meet the Masters event. Thanks for joining us today. Give out your website so the website.

Is www.specializediraservices.com Edwin thanks for joining us Jason thanks so much man. I appreciate it.

Thank you so much for listening. Please be sure to subscribe so that you don't miss any episodes. Be sure to check out the show's specific website and our general website, hartmanmedia.com for appropriate disclaimers and terms of service. Remember that guest opinions are their own and if you require specific legal or tax advice or advice in any other specialized area, please consult an appropriate professional. And we also very much appreciate you reviewing the show. Please go to iTunes or Stitcher Radio or whatever platform you're using and write a review for the show. We would very much appreciate that and be sure to make it official and subscribe so you do not miss any episodes. We look forward to seeing you on the next episode.