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Self-Directed Investing in a Secured Note or Mortgage (with Qualified Funds)

Jan 31, 2019

A Secured Note or Mortgage is a promissory note that is guaranteed by an interest in an asset that is worth as much or more than the amount of the loan. In most cases, if the borrower defaults on the loan, the qualified account will become the owner of the asset securing the note.

Notes can be secured by property, vehicles, mobile homes, accounts receivable, etc. As with an unsecured note, the note spells out the terms of the loan, such as interest rate, loan amount, payment schedule, etc. A Deed of Trust, a Mortgage, or a Uniform Commercial Code (UCC1) filing with the Secretary of State may be used to place a lien against the secured asset. For most vehicles, the qualified account would be placed on the title as lien holder, just like any other lender.

Note and Deed of Trust:
A Deed of Trust involves three parties: the trustor (borrower), the beneficiary (lender), and the trustee (may be a title company or third party, but the trustee cannot be a disqualified person). When the loan is repaid the title is reconveyed back to the trustor.

Note and Mortgage:
A mortgage involves just two parties: the mortgagor (borrower) and the mortgagee (lender). The mortgage places a lien on the property, but legal title remains in the name of the borrower.

Note and UCC filing:
The Uniform Commercial Code (UCC) provides for the filing of certain financial statements, agricultural liens, and other lien documents with the Secretary of State. Filing with the Secretary of State’s Office serves to perfect a security interest in the named collateral and establishes priority in case of default or bankruptcy.

 

You cannot participate in a prohibited transaction

When using retirement funds to invest in a Secured Note or Mortgage it is important for the qualified account owner to understand the Internal Revenue Service (IRS) rules and regulations to avoid engaging in a prohibited transaction with a disqualified person that could lead to a complete distribution of the account with taxes and penalties incurred. A prohibited transaction is any improper use of the retirement account by the account owner, beneficiary or any disqualified person.

A “disqualified person” includes, but is not limited to:

  • Yourself
  • Your lineal ascendants and descendants
  • The spouse of a lineal descendant
  • Your spouse
  • Any entity that is owned 50% or more by disqualified persons
  • An entity that is controlled 50% or more by disqualified persons

 

Examples of prohibited transactions include:

  • The account owner or a disqualified person will receive a personal benefit as a result of the transaction.
  • The account owner or a disqualified person is the original owner of the Secured Note or Mortgage.

DISCOVER THE POWER OF TRUE SELF-DIRECTED INVESTING

Our Self-Directed IRA allows you to invest in what you want, when you want. The investment possibilities are endless.

Discover the power of true self-directed investing

Our Self-Directed IRA allows you to invest in what you want, when you want. The investment possibilities are endless.

When using your qualified account to purchase a Secured Note or Mortgage, there are a few key items to remember:

  • You are responsible for performing due diligence on your investment. Every investment has unique risks and any decision to invest should only be made after you conduct a thorough review of the investment and any parties related to the investment. Provident Trust Group is a passive, directed custodian and as such does not provide any type of investment advice or due diligence.
  • All funds to purchase the investment must come from your qualified account.
  • All income generated by the investment must be paid to your qualified account.
  • The value of the collateral should be for equal to or more than the amount of the loan. The note should specify the terms of the loan such as: type, amount, interest, and the payment schedule.
  • You must hire the services of an unrelated third party loan servicing company to manage a Secured Note or Mortgage. If you do not wish to use a loan servicing company you will be required to sign a waiver. Provident Trust Group does not perform loan servicing functions or monitor investment income and expenses. It is your responsibility to protect and monitor your investment.
  • You must provide a Fair Market Value of all assets held in your qualified account annually.

 Required Documentation

  • Direction of Investment Form
  • Copy of the Promissory Note/Mortgage
  • Copy of the Security Interest (e.g. Deed of Trust, Deed of Mortgage, Security Agreement, UCC, Title, etc.)
  • Loan Servicing Agreement or Waiver

 

Investment Titling

You and your qualified account are two separate entities and your qualified account is considered the legal owner of this investment. As such, all documents must reflect this ownership. Failure to title the asset correctly may cause delays and/or tax consequences. The correct titling for all investment documents should be as follows:

“Provident Trust Group, LLC FBO: your name and account type

 

Resources

IRS Publication 590A – Contributions to Individual Retirement Arrangements (IRAs)
https://www.irs.gov/pub/irs-pdf/p590a.pdf

 

IRS Publication 590B – Distributions from Individual Retirement Arrangements (IRAs)
https://www.irs.gov/pub/irs-pdf/p590b.pdf

 

IRS Publication 598 – Tax on Unrelated Business Income of Exempt Organizations
https://www.irs.gov/pub/irs-pdf/p598.pdf

 

Internal Revenue Code 4975 – Tax on prohibited transactions
https://www.law.cornell.edu/uscode/text/26/4975

 

Frequently Asked Questions

Q: Does the security document (i.e. deed or mortgage note) need to be recorded?

A: Typically it is in the best interest of the lender for the documentation to be officially recorded. However, it will depend on where the collateral is located.

Q: Does a Mortgage note need to be for 100% of the property?

A: No, different percentages can be permitted so long as the note is for more than the amount being borrowed.

Q: Can someone gift me a Mortgage note?

A: According to the IRS, a Mortgage note must be made for value and cannot be a gift or for free

Please Note: Provident Trust Group and its affiliates do not provide tax, legal or accounting advice. This material has been prepared for informational purposes only, and is not intended to provide, and should not be relied on for, tax, legal or accounting advice. You should consult your own tax, legal and accounting advisors before engaging in any transaction.

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