The downside of buying real estate with your IRA

It’s a complicated process in which mistakes are costly.

Article published: March 13, 2023

One of the advantages of an integrated financial plan is the way it coordinates different strategies to help elevate your wealth. That includes tax-smart strategies designed to save you money. In that same vein, it might seem like buying real estate with your IRA would be a no-brainer. But there are complexities and limitations to this strategy that argue against this approach.

“I regularly hear clients ask about buying real estate in their IRA as part of their financial plan,” says wealth planner Michelle Muhammed. “But what I tell them is that instead of moving you forward towards your financial goals, this strategy can easily move you backward.”


Most people are familiar with a traditional IRA, the type you can create through a brokerage like Schwab, E-Trade or Fidelity. But you are not allowed to buy real estate with a traditional IRA. Instead, you need to set up a self-directed IRA through a specialized company, which acts as the custodian.

Caution is advised: If the self-directed IRA is set up incorrectly, you could be on the hook for unexpected tax liabilities, and in some cases, penalties, so hiring an experienced real estate lawyer to help with the process is a must.

The IRS also has very specific rules regarding real estate investments in an IRA, and if you fail to strictly adhere to them, they can disqualify your IRA, making all the funds and transactions taxable.


IRS rules prohibit individuals from engaging in “self-dealing” in their IRA. This is a catchall term, which generally means you can’t do business with yourself or engage in any transactions that provide you with financial benefit, instead of your IRA.

The rules run from straightforward – you can’t buy or sell property with your IRA to a related party – to extremely complex. For example, if you use $250,000 from your IRA to invest in a rental property and then let your daughter and her family move in, even if they pay rent, the investment would be considered a prohibited transaction. If discovered, the IRA could rule the $250,000 investment a distribution and you would be liable for any subsequent taxes and penalties.

The IRS also requires that any real estate owned in your IRA be strictly for investment purposes only. That means you and your family members cannot use it for personal reasons – under any circumstances.

So, if you buy a property to list on Airbnb or a similar service, and you or your family members stay there when it isn’t rented, that would be a violation of the rules.

In addition, all expenses for your property, including, but not limited to repairs, utilities, taxes, homeowner association fees and insurance, must be paid with funds from your self-directed IRA. You cannot pay them yourself, which means you’ll need to have plenty of cash in your account. And any income generated by your investment property cannot be paid to you – it must be paid directly to your IRA.

Another restriction on property held in an IRA is that you are not allowed to do any improvements yourself. That even includes something as simple as fixing a leaky faucet. Doing so is considered a prohibited transaction. You are even prohibited from using furniture you own personally to furnish your investment property.


But it’s not just the complex financial structure and strict management rules that make buying real estate with an IRA a less attractive option for most people. There are also numerous disadvantages to this strategy, like concentrated risk.

“You could be putting all your eggs in one basket,” says Senior Director of Financial Planning Research and Education Jeb Cogger. “You have to think of how long it took you to accumulate the money you plan to use to buy your investment property. Then ask yourself, ‘What if I put all that money into real estate right before the 2008 financial crisis? How long would it have taken me to recover?’”

Because real estate is an illiquid asset, seniors must consider how they will deal with Required Minimum Distributions once they reach their required beginning RMD age. Once they reach that age, they’re required to take annual withdrawals from all their tax-deferred accounts. Those withdrawals are based on the year-end balance of their IRAs, which means each year they will have to have an appraisal done on their investment property to make sure those withdrawals are accurate.

“This brings up another disadvantage,” says Muhammed. “Appraisals are expensive. And that’s just one of the many fees associated with owning property in an IRA. There are fees to set up a self-directed IRA and most custodians charge for check requests, fund transfers and other transactions, in addition to an annual management fee.”

And in an ironic twist, one of the main drawbacks with this investment strategy is that you forego numerous tax breaks normally associated with owning real estate, like depreciation and interest write-offs.


Getting too focused on one asset class like real estate, without the context of the rest of your portfolio, can create risks to a diversified investment approach. “That’s why we model thousands of securities to determine the right asset allocation for our clients,” says Dr. Wei-Yin Hu, our head of financial research. Concentration risk is an issue that could arise from buying real estate with an IRA, which would likely be bigger than the allocation we normally suggest for real estate, Dr. Hu says.

Source: Case Shiller returns as of 10/31/22, S&P Dow Jones Indices, CoreLogic, Bloomberg. Columns represent calendar year returns for a 50% IA SBBI U.S. Large Stock Index/10% IA SBBI U.S. Small Stock Index/40% IA SBBI U.S. Intermediate Term Government Bond Index blended benchmark, from 1990 through 2022.

An index is a portfolio of specific securities, the performance of which is often used as a benchmark in judging the relative performance of certain asset classes. Indexes are unmanaged portfolios and investors cannot invest directly in an index. Index and fund returns are calculated as a total return with dividends and capital gains reinvested, unless otherwise noted. The performance of the indices provided do not include transaction or management fees investors would incur if investing in those stocks directly or a security that replicates those holdings. Index returns are provided as a benchmark and are not illustrative of any particular investment. Past performance does not guarantee future results.


As the chart illustrates, between 1990 and 2022, real estate, as tracked by the Case Shiller index, produced an annual return of 4.24%, while during that same period a traditional 60/40 blended portfolio produced an 8.44% return, and the S&P 500 returned 9.82%. And the disparity in performance between 2010 and 2022 is even more dramatic, with the S&P 500 outperforming real estate by 6.68% annually during that period.


It is said that knowledge is the best investment, so if you are still considering setting up a self-directed IRA to purchase real estate, here are some key questions to ask custodians first:

  • What are the fees being charged?
  • How often is the real estate priced?
  • What are the fiduciary responsibilities of the specialty firm handling this transaction (if any)?
  • Where will the assets be custodied?
  • What are the fees and penalties for getting out?
  • How do you liquidate the real estate when you need to get out?
  • What types of real estate assessments and charges could I accrue in the future?

As you can see, there is a long list of reasons why buying real estate with your IRA may not only be a bad idea but may hamper your ability to achieve your financial and retirement goals. If you’ve been thinking about employing this strategy, talk to a financial planner first. They can explain the pitfalls, but more importantly, show you alternative strategies that can help move your wealth forward – not backward.

We are here for you for all of life’s financial moments. Talk with your planner if you have questions on this or any other financial topic.

    What is loud budgeting?

    Identify and help prevent bank scams

    Your Guide to Understanding Lower Interest Rates

    3 Financial Truths for the Rest of 2024