Menu

(866) 818-4472

Open Account Client Login

PENSCO Blog

PENSCO Blog

Fresh alternative asset insights and the latest news on real estate and private equity investing.

Real Estate IRA Investing: The Basics of Mortgage Notes

  |  By Chris Shanahan, CISP®

In my last post, I talked about the different ways that investors can access real estate using tax-advantaged IRAs. One of the more popular methods is through mortgage-backed notes, also known as deeds of trust. For many folks, this strategy can be a relatively simple and easy way to enter the real estate investment game, versus investing in real estate directly.

With a mortgage-backed note, your IRA essentially acts like a bank by loaning money to a borrower. In return, the IRA receives a note and deed of trust, which is recorded with the county where the property is located. The borrower then pays back the principal and/or interest (according to the terms of the mortgage) to the IRA each month until the loan is satisfied, at which point the deed of trust is reconveyed, and the borrower (now homeowner) owns the property outright.

The recorded deed of trust provides security for your IRA, the mortgage holder, in the event of default, effectively putting a lien against the underlying property so that the mortgage holder can foreclose and take control of the property if repayments are not made. If that event does take place, the IRA would now own the physical piece of property (formerly the underlying security) instead of the mortgage, and you as the IRA account owner would be free to do what you want with said property (rent, sell, etc.).

Logistically speaking, the paperwork involved in completing this transaction is similar to that of buying a piece of real estate directly through your IRA. You can work with a title company and/or real estate broker to gather all necessary forms, which you then sign and forward to your IRA custodian for their countersignature. The IRA custodian will need to review the paperwork to make sure that there are no prohibited transactions being committed. For example, an IRA cannot loan money via mortgage to a disqualified party, such as a parent or child.

If you don’t think you have the expertise to put together a loan by yourself (which entails finding a borrower, finding a loan servicer, etc.), there are other, less labor-intensive ways to make this type of investment. For example, mortgage companies will sometimes pool funds together from various sources to create a large secured loan. This is a popular vehicle for investors because most of the legwork is done by the company, including finding the borrower, putting the paperwork together and servicing the loan as it is repaid. These companies will charge fees for their services on top the IRA custodial fees, but the additional cost may be worth it if you value the convenience aspect.

And with the tax-advantaged status of an IRA, remember that all of your earnings will grow tax-deferred – making mortgage-backed notes a great way to maximize your IRA’s growth, while also providing the security that many investors seek with their retirement funds.

This Blog does not provide investment, tax, or legal advice nor does it evaluate, recommend or endorse any advisory firm or investment vehicle. Investments are not FDIC insured and are subject to risk, including the loss of principal.