Did you know an IRA may have to pay taxes and file its own tax return? Did you know an IRA can borrow money?
Yes, even a Roth may find itself as a taxpayer. Per IRS rules, any gains or income that is attributable to leverage must pay tax on that which was derived from the leveraged portion. Many IRA owners invest in partnerships and receive a K-1 which should delineate any gains which are attributed to debt vs. equity. However, even a self-directed IRA must pay taxes on leveraged gains. The tax is called UBIT or unrelated business income tax. The theory behind it is that IRAs, pension plans, and any non-taxable entity would have an unfair advantage in business if all its gains were tax-free.
Only a CPA can tell you exactly how to file and how much to pay. As an example, if Paula Smith decides to open an IRA and invest in a rented house, all the income and gains from that house would be deferred like any other IRA investment. If, however, Paul borrows money to improve the home, the gain on the borrowed portion is taxable like any other borrower. Taken one step further, if an IRA invests in an LLC and that LLC has debt financing, a portion of the IRA’s gains may be taxed.
On a similar note, we have lenders who will loan money to the IRA for such purposes. Taxes are not all bad – it means you made money.