At any given time, you will find on my list of to-do projects drafting paperwork for one or more loans being made by IRA accounts in private-lending arrangements. This is something I enjoy doing, but more and more people are coming to me with problem deals they have already funded and are now trying to figure out how they can correct the situation. Let me give you a couple of important principles, and then I want to share with you an important resource when it comes to private lending.
First, you should always look to make what I call “happy-happy” loans from your self-directed retirement accounts. By that I mean you are happy if the borrower fully pays you off as agreed, but you will also be happy if the borrower doesn’t because the cost and hassle of foreclosing to get the collateral to satisfy the debt results in a higher rate of return to your IRA. You are happy either way.
The second principle to remember when doing private lending from your self-directed retirement account is not to make a loan on a piece of property unless you would be willing to buy that same piece of property for the amount you are loaning from your IRA plus any other superior debt such as liens, judgments, HOA fees and taxes.
To employ these two principles, you, as the private lender, must engage in some due diligence. One of the things my firm provides is additional due diligence services for lenders who are uncertain as to what they are doing when lending from one or more IRA accounts or IRA-owned entities.
The necessary due diligence should include due diligence on the property as well as on the borrower. You will need to spend time thinking about the actual merits of the loan, not just thinking about your potential rate of return. More than once, I have seen a disingenuous borrower lure an unsuspecting lender into a transactional relationship by offering an enticing yield, only for the lender to realize they have not only lost the potential return on their principal, but they may have lost the principal as well.