Retirement planning can feel daunting for many of us. We all have this idea of sipping Pina Coladas on the beach somewhere as we enjoy life without having to work. Unfortunately, that reality, especially in America, is not going to be the case for a vast majority of Americans. Americans are behind on retirement savings, straddled in debt, and lacking options. This doesn’t have to be you. Many different retirement vehicles can prepare you for a better tomorrow while giving you tax ride-offs today, whether that be through a 401k, Traditional or Roth IRA, pension plan, or a few others. These are great options for retirement but don’t give you complete control over how and what you are doing with your retirement money. Now, this isn’t a big deal for some of you, but if you want more control over how you invest, you do have another option available to you. Today we will talk about this little-known secret giving you more control over how you allocate your retirement fund, and it’s called a self-directed IRA.
Why Haven’t I Heard Of A Self Directed IRA Before?
Self-directed investing in an IRA has been allowed since the government first established IRAs in 1974. Before we go any further, we need to go over a vital component of any IRA which is the function of a custodian. Custodians are required in any IRA to maintain tax-deferred or tax-free status and essentially make sure you follow the government’s regulations.
The main reason it hasn’t received as much attention as its counterparts is most custodians who offer retirement accounts focus on traditional investment options like stocks, bonds, and mutual funds. The large firms that act as custodians usually don’t provide investment options in alternative because they are limited by the types of investments they offer at that particular firm. These firms make more money by providing investments in traditional assets that are easier to manage than non-traditional assets. Because of this fact, if you ask some of the larger custodians if you can invest in non-traditional assets, the answer you will most often get will be “no” or “I’ve never heard of that before.”
Why Self Directed IRA?
You might be thinking to yourself, what all does a self-directed IRA allow me to invest in? The answer is quite a bit longer than you might think. Self-directed IRAs give you greater access to how, what, and why you invest your money to meet your retirement goals. The IRS provides a list of prohibited investments in IRS publication 590. and All other investment types are allowed as long as the IRS rules are followed.
Allowable IRA Investments:
| Residential Real Estate | LLC and C-Corps | Private Placements (debt and equity) |
| Commercial Real Estate | Tax Lien Certificates | Structured Settlements |
| Undeveloped or Raw Land | Equipment Leasing | Precious Metals |
| Real Estate Notes | Livestock | Factoring |
| Promissory Notes | Foreign Currencies | Accounts Receivable |
| Limited Partnerships | Stocks, Bonds, And Mutual Funds | Oil and Gas |
Non-Permitted Investments In An IRA:
| Art Work | Certain Metals | Coins |
| Rugs | Gems | Alcoholic Beverages |
| Antiques | Stamps | Life Insurance Policies |
Self-directed accounts do have a few additional rules to follow just by nature of having more control over your money that you need to be aware of.
The Arm’s Length Rule:
The IRS rule states that you and your investments must be at arm’s length. Essentially, the IRS wants to make sure that you can’t directly benefit from assets owned by the IRA today.
This might seem strange but remember the purpose of an IRA is not intended to benefit you now but rather your future self. You are planning for retirement, and that benefit will be received in the future. Any IRA transactions that benefit you personally are strictly prohibited. The golden rule is if an investment you have gives you a benefit today, it is not allowed. However, if it is a deferred benefit, that is permitted. Here are some common examples below:
- Personally Using IRA Property: Using real estate purchased through your IRA as a primary residence, vacation home, office space, or any space that could benefit you personally today is strictly prohibited.
- You can purchase rental properties, but you can’t live or rent them to yourself or a disqualified person. (We will go over disqualified persons in the next section.)
- Receiving Personal Benefits from Your IRA: This is relatively straightforward, but you are not allowed to lend yourself or any disqualified person money from your IRA. You are also not allowed to pay yourself, a company you own, or another disqualified person to do work or manage any investment you own.
- Revenue and Expenses: The basic idea here is all income and expenses are received by and paid from the IRA. If your IRA owns a rental property, rents should be put directly into your IRA without touching your personal account, and all expenses should be paid directly from the IRA.
Disqualified Persons:
The IRS mentions disqualified persons frequently, and it is essential to know who those people are. The IRS states that a self-directed IRA may not buy an investment from, sell it to, or be involved with disqualified persons. Disqualified persons are your ascendants (grandparents and parents) and descendants (children and grandchildren).
Siblings, nephews, cousins, best friends, parent in-laws, aunts, and uncles are NOT disqualified persons and are perfectly fine to invest in and with.
In Summary:
Self-directed IRAs provide more flexibility to invest in different types of asset classes that have been traditionally not available to the everyday consumer. This option is not needed for everyone but can be very helpful depending on your term goals. Before opening an account, talk with a financial coach or advisor and see if this option makes sense for your retirement goals.
