Tax-Advantaged Real Estate Investing When You've Maxed Out Your Self-Directed IRA

Tom RutkowskiPresident

Innovative Retirement Strategies, Inc.The IRS you want on your side

www.linkedin.com/in/tomrutkowski/tom@innovativeretirementstrategies.com

561-676-8982

My Story● Married, 2 daughters● 8 years USMC● BA Economics, UC Irvine● MBA Finance/Investments● “Retired Early”● Real Estate Investor● President, IRS, Inc.● Financial Blogger

Self Directed IRA Limitations● Contribution limited to $5,500/year● May be limited by income.● Can’t access funds without penalty.● Limited leverage.

● Many large SD-IRA’s started with a 401(k) rollover.

Target Audience

Any investor using their own cash to do deals that wants to make more money.

Best suited for passive investors looking for a tax-advantaged alternative to self-directed IRA.

Active investors using leverage in their businesses.

Very Simple Concept

1. What if you could safely invest your money and make 6-8% average returns with NO risk of loss, AND

2. What if you could then use that money as collateral for a loan at a 4-5% rate?

Any investment you make with the borrowed money that earns in excess of loan interest rate is adding value on top of the original investment. Your money would be working in two places at one time!

What does this investment need to look like?

• Needs to earn stable, high returns.• Must be able safe enough to borrow against.• No risk of loss.• Liquid• Tax-advantaged

● “A Magic Checking Account”○ Account balance earns interest○ Credit line against balance

Permanent Life Insurance:Indexed Universal Life (IUL) &

Whole Life

IUL Annualized Returns

5-Year Rate of Return 10.30%

10-Year Rate of Return 8.00%

20-Year Rate of Return 8.30%

Historical Rate of Return 8.20%

Best Whole Life Dividend Rate 7.1%

Life Insurance Basics

• Term vs Permanent• Term – Use it or lose it. Not recommended.• Permanent – WILL pay death benefit.

• 1 yr Term purchased each year• Savings component – cash value – equity

• Two types of Permanent• Whole Life• Universal

I don’t know Tom, I heard permanent insurance is a bad investment

• Most people that say that don’t truly understand how insurance works.

• Think about what you know:• Permanent Insurance has cash value. • Permanent Insurance earns dividends/interest.• You can cash out/borrow cash value

Cash Value

• “My Uncle had a policy and it took years before he had any significant cash value”

• A policy designed for “Micro-Banking” will have 85% - 90% of every premium dollar go straight to the policy’s cash value.

• Cash value is immediately available via use of special riders.

This is NOT your Uncle’s Policy!Sample Client:Age 45, Healthy Non-smoker

Policy Year Age Premium Cash Value

1 45 $100,000 $89,345

2 46 $100,000 $184,617

3 47 $100,000 $286,202

4 48 $100,000 $394,650

5 49 $100,000 $510,412

Oh! And by the way, this Policy has a Death Benefit of $2.2M and will provide $92,943 of tax-free, annual income when the client retires at age 65 at the illustrated growth rate of only 7.0% per year. In 5 years of retirement, the client will have received almost as much income as they paid into the policy

Dividends/Interest• “But I can make so much more investing on

my own. I heard I should buy Term and invest the difference”

• Best Whole Life Pays 7.1% Dividend. Tax-Free.• If you’re in 28% tax bracket, that is equivalent to 9.8%. • No Risk to Principal

• IUL Annualized Return is 8.2%. Tax-Free.• If you’re in 28% tax bracket, that is equivalent to 11.4%. • No Risk to Principal due to market

• This is not the investment. Your Real Estate Is The Investment.

Policy Loans• This is the biggest misconception people -

including MANY life insurance agents - have about Policy Loans.

• You do not BORROW FROM your cash value.• You BORROW AGAINST your cash value.

• That seems crazy Tom. I give them a premium and then they give me back 85% of it? Why would they do that?...

Source: Mass Mutual Annual Report 2014

• Even Mass Mutual thought it was necessary to include a footnote reminding investors that Policy Loans were THEIR investment, not Policy Holders’ cash value.

Policy Loans

Putting Your Money to Work in ONE Place at ONE time

Investment $100,000Rate 10.00%Gross Profit $10,000Tax (28%) $2,800

Net Profit $7,200

Business As Usual - Without Micro-Banking

Putting Your Money to Work in TWO Places at ONE time

Premium $100,000Investment 1 (Insurance Cash Value) $85,000

Rate 7.00%Profit (Tax-Free) $5,950

Investment 2 (Same as previous) $85,000Rate 10.00%Gross Profit $8,500less Interest Expense $3,613Taxable Income $4,888Tax $1,369Net Profit $3,519

Total Profit $9,469

9.469% Combined Return Versus 7.2%!• Not impressed with only 2.269% improvement?

• 9.469% is 32% better!• Rule of 72!

Long Term Results

Meet “Joe” Rehabber

Source: Twitter

● “Joe” is 30 years old● Does about four deals every year. ● Uses hard money loans as much as possible in

order to preserve his own limited funds. ● He often has to come out of pocket to meet

down payment requirements on the loans as well as rehab costs.

● Joe is now making about $80,000 a year. ● Has about $25,000 of working capital to

support his business. ● Can save about $12,000 per year that he

intends to reinvest in his business.The Market● Joe is investing in an area where most of the

houses are selling around $100,000. He just found a deal for $55,000 that will require about $20,000 of rehab.

Joe’s Deal Without “Micro-Banking”Acquisition Cost $55,000Rehab Estimate $20,000Capital Required to do deal $75,000

Hard Money Rate 12%Lender’s Maximum Loan to ARV 65%Loan Total $65,000Joe’s Own Money $10,000

Sale Price of House $100,000Less: Loan Principal $65,000Less: Expenses $10,000Less: Hard Money Loan Interest (6 Months) $4,500Taxable Income $20,500Tax (25% Bracket) $5,125Net Profit $15,375

After tax ROI: 53%Investment $10,000Net Profit $15,375

Joe’s Deal With “Micro-Banking”Acquisition Cost $55,000Rehab Estimate $20,000Capital Required to do deal $75,000

Hard Money Rate 12%Lender’s Maximum Loan to ARV 65%Loan Total $65,000Policy Loan @ 5% interest rate $10,000Joe’s Own Money $0

Sale Price of House $100,000Less: Loan Principal (both loans) $75,000Less: Hard Money Loan Interest (6 Months) $4,500Less: Policy Loan Interest (6 Months) $250Taxable Income $20,250Tax (25% Bracket) $5,063Net Profit $15,188

After tax ROI: ∞Investment $0Net Profit $15,188

Keep in mind that the cash value in Joe’s Policy is ~$10,500 and is earning a 7% tax-free annual dividend at the same time. He would have to earn nearly $1000 outside the policy to match this on a tax-equivalent basis.

● Annual Net Income w/o Leverage: $61,500○ $15,375 times 4 deals

● Combined Income w/ Leverage: $62,106○ $15,188 times 2 deals○ $15,375 times 2 deals○ $980 Cash Value Growth○ plus $500,000 death benefit○ plus Asset/Creditor Protection

● In the Rehab world, this difference is a rounding error. But it is only the 1st year!

● By Year 5, Joe will have a Micro-Bank with over $60,000 in it. Plus he will have profits/savings outside of the Micro-Bank

Deal Comparison - 1st Year Only

One of Joe’s contractors filed a malicious lawsuit the following year and won a $25,000 judgement.

● Life Insurance Cash Value is protected from creditors.● If you have a policy loan outstanding, an amount equal to the loan

and interest is protected.● Remember OJ?

● Luckily for Joe, he moved his Working Capital into his own Life Insurance Micro-Bank and his contractor had no assets to go after.

Asset Protection

Joe couldn’t catch a break. While inspecting a potential deal, he fell off a rooftop and was killed.

● Joe’s Policy had a $500,000 Death Benefit● Joe’s wife “Sue” was able to hire

contractors to complete Joe’s unfinished projects and set some money aside for their children to go to college.

● Sue was inspired by Joe’s fancy ROI spreadsheets. She used one to figure out that she had earned a 497% annualized rate of return on her two $12,000 Premium “Investments”.

Death Benefit

Regardless of your thoughts, opinions, or anything you have ever heard about permanent life insurance, this strategy works.

● Life Insurance is not “The Investment”. It is a tool to improve your “Investment’s” returns.

● It allows you access to your retirement savings at any time between now and the time you retire.

● The special treatment of cash value allows you to put your money to work in TWO places at ONE time.

● The cash value can provide up to 3X the income of traditional retirement plans.

● It provides for the welfare of your family in the case of death.● It can provide for you and your family in the case of critical or

chronic illness that leaves you unable to work.

Whole Life and Indexed UL● Whole Life Pros:

○ Higher Guaranteed Growth (~4%), though dividend rate is not guaranteed.

○ Consistent, stable dividend rates remove worry about market fluctuations. Currently 6-7%.

● Whole Life Cons:○ Loan rates are higher. Usually earning rate and dividend rate

are equal. Some variable loan options.

Whole Life and Indexed UL● Indexed UL Pros:

○ Returns tied to market performance. Long term growth rate is higher than Whole Life products. Allows for market performance without market risk. 25-Year annualized return is 8.2%

○ Loan rates are lower. Makes your real estate investments more profitable.

● Indexed UL Cons:○ Return variability.

Assumes 12% Net Profit on Real Estate investments in the “Side Fund”. Compared to hypothetical Mutual Fund (Green).

Life Insurance

Roth IRA Traditional IRA

Tax free growth and income? X X -

Unlimited contributions? X - -

No Income limitations? X

Early withdrawals without penalty? X - -

Tax deduction on contributions - - X

Immediate estate creation upon premature death? X - -

Provides Money in case of critical/chronic illness X - -

Comparison of Retirement Strategies

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