Personal Guarantee on a Solo 401(k) Loan? Maybe.

By Jordan Sheppherd

guarantee

We all know (or should know), that personally guaranteeing a loan, made to your Self-Directed IRA, IRA LLC, or Solo 401(k) is prohibited. Because of the self-dealing rules in Sec. 4975 of the tax code, extending your personal credit to back up a loan made to your retirement plan is self-dealing and would therefore be a prohibited transaction (see Peek v. Commissioner).

This creates some headaches for people, because the loan then must be a non-recourse loan, and requires a much larger downpayment. The lender can only take back the property, but can’t come after you, personally.

What if there were an exception, though?

The Dept. of Labor (DOL) is currently reviewing a proposed Prohibited Transaction Exemption (PTE) that would provide an exception to this prohibition of personally guaranteeing a loan. Sorry, but if you have an IRA, you’re out of luck; this exemption would only apply to qualified plans [read: Solo 401(k)s].

You can read through the PTE here. Richard Rosenbaum, the fellow who applied for the PTE has a Solo 401(k) through his Corporation. The Solo 401(k) owns an LLC which serves as a real estate holding entity for the plan. He wants to personally guarantee a loan to be made to that LLC, with an anticipation of guaranteeing further loans, should the PTE be approved.

I got a look at the DOL’s case file on this, and I can say that the Dept. has run him through the ringer, but our opinion is that the PTE will likely be approved. Should that happen, and should someone else submit a proposed transaction for exemption that is substantially similar, then the language of PTE 96-62 would kick in, and this particular PTE would have EXPRO status. That means that anyone who has a situation substantially similar to this published PTE would be able to obtain an individual exemption on an expedited basis.

We’re not there yet, as comments and requests were closed by the DOL on May 31st, and it’s difficult to know exactly when a decision will be made.  We’re keeping an eye on it though, and as things progress, we’ll keep our community informed. Should this PTE get EXPRO status, we’ll be providing services to our clients, should they wish to obtain an expedited individual exemption.

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    5 Comments

    1. Byron Law

      Interesting development. I am looking forward to the updates on this.

    2. Michael Burroughs

      Don’t understand why a SDIRA account, or its owned single owner LLC or C Corp cannot guarante a loan—just as long as the OWNER of those accounts does not give its guaranty. Full recourse loan to the borrowing entity but non recourse to the owner of the SIDIRA, its llc or C corp. Why is that a PT?

      • Jordan Sheppherd

        Hey Michael,

        IRAs can hypothecate assets, meaning an IRA can pledge an asset it owns as collateral for a loan, so in that sense, the IRA can “guarantee” the loan, I guess if that’s what you’re talking about. For conventional financing, most banks will want a person to co-sign the loan, hence why most people do non-recourse loans, but as I said, its fine for an IRA to pledge assets as collateral on a loan.

    3. Barb Hromjak

      That would be extremely useful for me as my 401K already holds a self directed IRA that I have purchased real estate in. I have paid cash in the past for properties I have developed and sold, but this change would allow me to use leverage. Much more flexibility. Will be interested in the mechanics of using outside financing and the rules governing the process. Thanks for continuing to educate me!!

      • Jordan Sheppherd

        You’re welcome, Barb! We’re watching the DOL on this issue, so if/when they come down with the ruling, we’ll let everyone know.