Best Roth IRA Real Estate Investments

Updated August 27, 2022

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Having a diversified portfolio with balanced asset classes in your Roth IRA can be simple if your idea of diversity only includes equities and bonds. Historically, diversifying into real estate within your Roth IRA was reserved for the ultra-savvy and ultra wealthy. With real estate investment trusts (REITs) gaining popularity, new crowdfunding platforms, and information widely available on opening a self-directed IRA (SDIRA), investing in real estate with your Roth IRA has never been easier.

Key Takeaways

Investing in real estate in a Roth IRA is easiest through a REIT.
You can invest in individual real estate by opening a self-directed Roth IRA, but there are fees, rules, and more risks.
Investing in real estate through a self-directed Roth IRA by using a crowdfunding platform can mitigate risks and complies with regulations more easily but includes even more fees.

Using a REIT in Your Roth IRA

If you’re looking to invest in real estate in your Roth IRA in the simplest, easiest way possible, a real estate investment trust (REIT) is the way to go. A REIT is a pooled investment resource that buys, manages, and finances income-producing properties. There are REITs that specialize in residential, industrial, commercial, and agricultural real estate of varying densities. A REIT allows investors to diversify into real estate without taking on the individual risks and tasks associated with buying and managing property as a landlord.

REITs primarily pay through dividends and generally don’t appreciate in value significantly. Because of their high dividend yield, holding a REIT in your Roth IRA or health savings account is generally the most tax-efficient strategy.

90%

REITs are required to pay out 90% of their income to investors in the form of dividends yearly.

The best REIT for your Roth IRA will depend on what type of real estate you want to invest in and what is available through your brokerage. Investopedia keeps a rolling list of the top performing REITs for each month. Large brokerages like Vanguard, Fidelity, and Schwab have their own proprietary REITs in addition to allowing investors to buy into others that are publicly traded.

Opening a Self-Directed Roth IRA for Real Estate Investing

A self-directed IRA (SDIRA) can be opened as a Roth IRA or a traditional IRA. Both options require you to open the account through a custodian, which limits you to where you can open your account. If you’re opening a self-directed IRA specifically to invest in real estate make sure that the custodian you use allows investing in real estate. SDIRAs usually have higher management fees, so keep those in mind.

Individual Real Estate Investing in a SDIRA

The Internal Revenue Service has very specific rules on investing in individual real estate in an IRA. Namely that the property must be purely used as an investment and not used by you or someone close to you.

In addition to IRS rules and regulations, investing in individual real estate within your Roth IRA can be difficult. Acquiring the necessary capital to purchase real estate can take years, and individual real estate investing carries significant risks. Individual properties can become undesirable as a result of natural disasters, businesses closing down, school districts underperforming, and a number of other factors outside of your individual control.

Your property may need repairs you can’t cover, you may have long periods of vacancy, or you may have tenants who don’t pay. During the coronavirus pandemic there were eviction bans that, while saving thousands from becoming homeless, did leave some property owners without income for over a year in some cases.

If you will need steady reliable income in old age, individual real estate investing in a SDIRA may carry more risk than you’re comfortable with.

Crowdfunded Real Estate Investing in a SDIRA

Crowdfunded real estate investing platforms allow individual investors to pool their money into real estate investments. By pooling assets, the barrier to entry for investing in real estate is much lower. Some platforms have a minimum investment buy-in as low as $10.

Investing in real estate this way in your Roth IRA also takes out a lot of the individual hassle of real estate investing: finding deals, negotiating them, and managing the properties. Crowdfunding can also mitigate individual risks by allowing you to buy a fractional share of multiple properties instead of a large share of one on your own. This option for real estate investing will have the highest fees as you will be paying fees to the custodian of your self-directed IRA in addition to fees to the crowd-funding platform.

Should You Hold Real Estate Investments in Your Roth IRA?

Deciding whether or not to hold a real estate investment depends on your own personal risk tolerance and desire to invest in real estate. If you hold REITs in your portfolio, keeping them in your Roth IRA is a better place to keep them for tax optimization. In general, REITs tend to pay out high dividends which are taxed heavily, so keeping them in the account you’ll never have to pay taxes on is smart.

How do I Pick a REIT?

Picking a REIT is similar to picking a stock. You research historical returns, read up on the management team, and read the prospectus. One nice thing about REITs is they are very liquid. Unlike a rental home, you can sell and buy another REIT on the same day if you decide you don’t like the one you picked.

Is Real Estate a Safer Investment Than Stocks?

The common phrase when comparing real estate to stocks is: the value of a house can’t go to zero, but a stock can. Real estate usually retains at least some value, even when the real estate market has had a significant downturn. Keep in mind, though, that a stock can’t be foreclosed on because you failed to pay property taxes. Owning a stock won’t get you sued by a homeowner association because your tenant parked an RV at your property for a month. While investing in a REIT does take away some of these risks associated with individual real estate investing, all investments do carry risk. Consider your risk tolerance before investing in real estate, just as you would before investing in anything else.

The Bottom Line

Investing in real estate is an excellent way to diversify your portfolio. REITs are a great asset class to hold if you want the stability of real estate without the work and risks involved in buying and managing it yourself. If you’re going to have REITs in your portfolio, having them in a tax advantaged account like a Roth IRA is best. If you want a more hands-on option you can opt for a self-directed IRA. If you’re comfortable with risks, restrictions, and extra work you can invest in individual real estate in your self-directed Roth IRA. If you prefer a more hands-off approach but want more individual control than you can get with a REIT, investing in a crowdfunded real estate investing platform through your self-directed Roth IRA is the choice for you.

Article Sources

Investopedia requires writers to use primary sources to support their work. These include white papers, government data, original reporting, and interviews with industry experts. We also reference original research from other reputable publishers where appropriate. You can learn more about the standards we follow in producing accurate, unbiased content in our editorial policy.

Office of the Law Revision Counsel. "26 USC 856: Definition of Real Estate Investment Trust."
Vanguard. "Vanguard Real Estate Index Fund Admiral Shares."
Fidelity. "Real Estate."
Schwab. "Schwab U.S. REIT ETF."
Internal Revenue Service. "Retirement Topics - Prohibited Transactions."
Internal Revenue Service. "Publication 590-B (2020), Distributions from Individual Retirement Arrangements (IRAs)."

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