The smartest investments often come from the simplest change to your investment vehicles. What many investors overlook is the burden taxes can have on assets.
When considering tax as part of the overall financial plan, many investors try to hold investments longer to qualify for lower tax rates associated with long-term capital gains, or use capital losses to offset gains. However, the more we look into investment returns and strive for balance, the more we realize that the smartest account structure for long-term returns is to defer taxes and allow gains to compound over time—and fortunately, there are a number of options that allow us to benefit from tax-deferred or tax-advantaged accounts. Some of the most common choices are available through retirement-related vehicles.
Individual Retirement Accounts
For long-term retirement goals, your portfolio can generate considerable savings simply by enrolling or rolling over your assets into a tax-deferred or tax-advantaged retirement account.
Tax-advantaged accounts provide opportunities to save additional money by avoiding taxes at some point in the investment cycle. In traditional Individual Retirement Accounts (IRAs) or a 401k plan, contributions are made to the account with pre-tax income, potentially lowering the investor’s annual tax bracket while allowing funds within the account to grow tax-free until the investor takes withdrawals, at which point the funds are taxed as ordinary income. In contrast, with a Roth IRA account, contributions come from an investor’s annual income that is already taxed, avoiding taxes during distributions after retirement.
Another tax-advantaged option that is gaining momentum among many investors seeking non-traditional methods to safely diversify their retirement portfolios is the lesser known self-directed IRA or SDIRA. Similar to an IRA, a SDIRA is also tax-deferred, but provides additional earning power due to its increased flexibility to invest outside of stocks, bonds and mutual funds. This includes investments in residential property, commercial real estate, and other non-traditional assets such as precious metals and oil.
Additionally, SDIRAs must be managed by a qualified trustee or custodian on behalf of the account holder. The trustee is responsible for administrative services, due diligence and filing the proper IRS reports among other things.
Real Estate Investment
Along with tax-deferred incentives, accounts like the SDIRA allow for much more flexibility and control, and real estate has grown into a popular investment choice for SDIRA accounts for its great diversifying power.
While many hard assets come with increased risk and volatility, real estate protects against market fluctuations and allows investors to hedge inflation. It historically has had a limited correlation to equities and a negative correlation to bonds making it a great investment vehicle in volatile times. Real estate also has accrued a consistent rate of return – ensuring equity generation over time and income potential from tax-deferred rent payments paid into the retirement savings account.
To add real estate to your SDIRA, a non-recourse loan is required to finance the property. This creates an additional avenue for growth as the investor can leverage part of their SDIRA and pay the remaining balance with a non-recourse loan. A non-recourse loan is pre-approved based on the property’s potential to pay off the remaining balance, and the lender cannot seize the borrower's other assets in the event of default.
Think Long-Term
Whether you are in a high or low income tax bracket, the more money you can save and add to a tax-deferred account the higher savings potential you will have in the long-run. Based on your individual situation and retirements plans, it’s important to maximize tax-advantaged options to capitalize on retirement savings and investment options like real estate.
Specialized real estate investment groups can offer comprehensive services to make both the initial and long-term investment in real estate simple and user-friendly for self-directed investors. These firms often buy or build properties in bulk at a discount achieved through research, relationships and years of expertise in the field.
Preston Despenas, Senior Partner and Co-Founder of Growth Equity Group, has more than 15 years of experience in real estate. Growth Equity Group is a premier, nationwide, real estate investment firm that provides investors added diversification with real estate through a passive investment solution. This includes providing rental properties that come equipped with non-recourse financing, existing tenants and property management in place. In addition, Growth Equity Group’s non-recourse financing allows investors to leverage their SDIRAs to afford superior assets, multiple properties and attractive markets.
