Self-Directed IRA’s: Definitive Guide

Self-Directed IRA’s are a lot like dynamite:  Powerful, flexible and very dangerous.

You can’t deny the appeal of using your retirement savings to invest in assets you actually understand like real estate, precious metals or private companies… It’s almost intoxicating…

And yet, there’s real danger for your retirement portfolio, and the IRS loves to exploit that.

So here’s how to enjoy the explosive power of Self-Directed IRA’s without blowing up your nest egg…

Self-Directed IRA's are BOOMING in popularity.  As the trend towards diversification AWAY from Wall Street and INTO alternative assets (like real estate, precious metals and private companies) continues, Self-Directed IRA's are going to do nothing but get bigger and bigger and bigger.

But let's be very clear:  Self-Directed IRA's are not right for everybody.  Not even close.

Sure, the benefits are substantial:

  • Astounding flexibility
  • Ability to invest your retirement funds in real estate, precious metals, pre-IPO stocks, cryptocurrencies… just about anything
  • Strong legal protection
  • Much greater tax planning capabilities than normal IRA's
  • Impressive estate planning potential

That's just a short list…

…But that flexibility makes it easy to “hang yourself” in a million different ways.  And when you screw up with a self-directed IRA (called a “prohibited transaction” by the IRS), odds are extremely high you'll lose at least half of your entire account… maybe even all of it.

So yes, there's real risk.  But here's the actual truth of the matter:

Conventional financial “experts” are woefully ignorant… and maybe even directly deceptive.  (I hope it's the former.)

These people have a vested interest in dissuading you from diversifying away from stocks, because their livelihoods are based on selling Wall Street's retail assets.  It's a conflict of interest the size of Mount Rushmore, which, by the way, is stunningly gorgeous and was carved using dynamite.

But many of the Self-Directed IRA companies aren't much different.

Most of them default to recommending self-directed retirement accounts for everyone, even though converting to self-directed IRA's is a counterproductive strategy for many people.  Even worse, many of those accounts sit with dormant capital, all because the investor is merely excited by the prospect of investing in alternative assets, but soon finds him or herself unable to identify or vet such investments on their own.

(Unlike conventional financial people who trash self-directed retirement accounts without regard to the facts of the law, I've got some sympathy for self-directed IRA companies, who have some difficult legal limitations… more on that later.)

So there… I've told you that the conventional financial “experts” are being deceptive about self-directed IRA's, and that self-directed IRA companies are between a rock and a hard place when it comes to really helping their clients as much possible.

That, of course, leaves me.  I'm not a provider of IRA's or financial accounts of any type, so I don't have that conflict of interest.  Yet I have vast and lengthy experience in the arena of self-directed retirement accounts, including the honor of providing legal continuing education instruction to California attorneys (in association with highly reputable institutions like UCLA).

Bottom line:  I'm going to tell you the truth about this stuff, without any conflict of interest.  And I know what I'm talking about.  The truth is frequently different than popular assumptions.  So let's begin:

 

Self-Directed IRA Basics

Self-Directed IRA's are just like regular IRA's in most ways.  There are great tax benefits, strong legal protection and many different types of accounts for varying types of people, such as employees, self-employed workers, non-working spouses, etc.  But the one big difference is that Self-Directed IRA's don't force you to buy investments only from your IRA provider.  In fact, there are nearly no limits…

What is a Self-Directed IRA?

The self-directed IRA is a financial tool that’s so powerful, I wonder if Congress knew what they were doing when they created it.

With a self-directed IRA, you can:

  • Save money for retirement… and get tax deductions for it
  • Invest your savings in nearly ANYTHING you want (not just stocks and mutual funds)
  • Never pay taxes on the growth of your account

You’re probably familiar with the “conventional” IRA.  Those are usually set up through companies like stock brokerages, insurance companies, banks and other conventional financial companies.

The tax benefits of these conventional IRA’s are the same as for self-directed IRA’s.  But there’s one big difference:

With conventional IRA’s, you’re limited to investing your retirement savings into the investment products sold by your IRA company.  That’s why I usually use the word “captive” rather than “conventional” to describe these IRA’s… because your money is captive to the limitations of the IRA company.

That’s how self-directed IRA’s are different.  With a self-directed IRA, you can invest your retirement savings in practically anything the law allows…

…and the law places very few limits on your IRA in the law.  That’s why these accounts are so very, very powerful.

What Can You Buy In Your Self-Directed IRA?

You can buy nearly anything you want in your self-directed IRA.

I've seen people use their self-directed IRA's to buy assets as mundane as bank CD's all the way to assets as unusual as dairy cattle!

Far and away, the most common type of asset I've seen in self-directed IRA's is real estate.  Some self-directed IRA custodians even offer an account that they call a “Real Estate IRA” (which is just a self-directed IRA with a different name.)

Some of the other assets I've seen purchased in self-directed IRA's are:

  • Real Estate (single family, multi-family, commercial, raw land, foreclosures, etc.)
  • Private Companies (pre-IPO or otherwise privately traded)
  • Precious Metals (US Government-issued coins and pure bullion)
  • Intellectual Property (Patents, Copyrights, Trademarks, etc.)
  • Databases
  • Tax Lien Certificates & Tax Deeds
  • Accounts Receivables (Factoring)
  • Private Loans / Hard Money Loans
  • Real Estate Mortgages & Notes
  • Internet Domain Names
  • Oil & Gas, Mineral Rights
  • Hedge Funds, Private Equity, Angel Investing
  • Timber
  • Heavy Equipment

and much more.  Your choices are nearly limitless.

The law that created IRA's prohibits only two types of assets:

  • Life Insurance
  • Collectibles (like stamps, artwork, rugs, etc.)

If your IRA buys those types of assets, you will likely be subject to taxes, penalties and interest.

You should also avoid allowing your IRA to purchase S-corporations, because even though doing so won't cause you to be penalized, it will likely cause the S-Corporation itself and the other others of the S-Corporation to be penalized because the corporation will lose it's “S” status and be subject to higher taxes.

Regardless of what you want to buy in your IRA, you should avoid using the money in your self-directed in any way that directly (or indirectly) benefits you or your relatives.  You should also be very careful about doing any IRA transactions with companies you own or control.

While there are very, very few restrictions on the kinds of assets your self-directed IRA can purchase, some of the restrictions are subtle, and the ramifications can be very, very painful for you if you break some of these self-directed IRA rules.

That's why I recommend that you consult with an IRA attorney before making investments in any alternative assets like those above.  (This is the self-directed IRA lawyer that I recommend most.)  That will be money very well spent!  (If you're a member of the Self Directed Investor Society, remember that one of your member benefits is help with being sure your investments are legally compliant.)

What Investments are Prohibited In Your Self-Directed IRA?

Yes, there are some asset classes that are definitely prohibited:

  • Life Insurance
  • Collectibles (like jewelry, antiques, most coins, etc.)

If you buy those types of assets in your IRA, the IRS will treat you as if you withdrew the money from your IRA before making the investment.  So in most cases, this means they'll hit you with taxes, penalties and interest.

You should also avoid buying S-Corporations in your self-directed IRA.  Doing so won't cause a penalty for your IRA from the IRS, but it probably will cause the S-corporation to lose the very attractive tax benefits it receives from the “S” election.

As far as prohibited assets are concerned, that covers it.  But note that there are additional self-directed IRA rules with which you must comply, such as avoiding transactions with “disqualified persons“.  Those rules trump everything else where self-directed IRA's are concerned.

If you think you may have bought assets in your IRA that are prohibited, I recommend you reach out to this self-directed IRA attorney.

Why Aren't All IRA's Truly Self-Directed?

There’s only one difference between a captive IRA that will limit you to stocks and bonds versus a self-directed IRA, with the nearly unlimited plethora of investment options it offers…

…That one thing is the custodian of your IRA.

The custodian is the company that holds the assets of your IRA.  Think of your custodian as the “bank” that holds on to the money and assets owned by your IRA.

But the truth is that most custodians view IRA’s not as a way to maximize your investment choices, but to force you to invest your IRA funds into their financial products exclusively.

And that’s why I call those types of IRA’s “captive” rather than “self-directed”.

Aren't Self-Directed IRA's Fundamentally Risky?

You don’t fundamentally take more risk by using a self-directed IRA versus a captive IRA.  But you absolutely have to accept greater responsibility with a self-directed IRA, and failure to wisely manage that responsibility can increase the risk to your retirement funds.

There are two reasons for that:

First, it's a lot easier to break the IRS rules for IRA's if you use a Self-Directed IRA than otherwise, because you have much greater flexibility…

…and if you break those rules, you could be looking at a serious problem… maybe even a financial cataclysm.

Bad advice on Self-Directed IRA's from Clark HowardSecond, there’s a higher risk you’ll be targeted by hucksters looking to steal your money, since the breadth of investment flexibility is so great with this type of account.

Here’s what I mean:  I know of one investor who made a lot of money

by investing in dairy cattle.  But I also imagine it would be easier to steal an investor’s money by offering dairy cattle investments than through conventional investments.

But let’s not kid ourselves:  There’s plenty of large-scale fraud that’s damaged investors who have invested in conventional stocks.  Have you ever heard of Enron?  Or Lehman Brothers?  Or Worldcom?  Or Waste Management?

Each of those were multi-billion dollar frauds that happened in the conventional Wall Street world. In fact, the Enron scandal was bigger in size than the total value of all fully self-directed IRA’s combined.

There are many, many more examples of conventional public companies that were operated either fraudulently or so carelessly than investors suffered greatly for it.

I don’t believe that the risk is greater for self-directed IRA’s overall, but…

…The risk you face is that there are more kinds of fraud you could face, since captive IRA’s tend only to allow you to buy stocks or mutual funds, whereas self-directed IRA’s allow you to buy nearly anything.

Here’s the bottom line:  Your burden of responsibility as a user of self-directed IRA’s absolutely increases versus using a captive IRA.  Self-directed IRA’s are only for people who are responsible and wise, both legally and financially.

What Kinds of Self-Directed IRA's are Available?

IRA’s come in many different configurations to match specific circumstances.

Here’s a quick list of each type, and the fundamental information about each (like qualification criteria, contribution limits, etc.):

  • Traditional IRA: This is the original IRA which offers income tax deductions for contributions
  • Roth IRA: Same as Traditional IRA, but offers tax-free withdrawals rather than deductions for contributions
  • SEP IRA: Stands for “Simplified Employee Pension”.  It’s a profit sharing plan so that self-employed people can save and invest some of their business profits
  • Inherited IRA: If a loved one passes away and leave their IRA to you, you’ll need to set up an inherited IRA to hold the assets you’ve received
  • Spousal IRA: If you are or have a non-working spouse who wants to have a separate retirement account, the Spousal IRA waives some requirements of the Traditional IRA to accommodate that
  • Education IRA: Also known as a “CESA” (Coverdell Education Savings Account), this is taxed like a Roth IRA but allows for withdrawals for educational expenses rather than just for retirement

All of these types of IRA’s are available in both “captive” and “self-directed” varieties, depending entirely on whether the custodian you select allows for self-direction.

You may have also heard of other types of IRA’s, like:

These are not actually types of IRA’s, they’re just ways to use an IRA.  If you look in the law that created IRA’s, you won’t see a single mention of any of these things.  They’re all just marketing names.

But they are all important, so I’ll tell you about them, too.

How Does The Process of Making Investments Actually Work With A Self-Directed IRA?

That’s a great question, because it’s different than with captive IRA’s, where all you have to do is call your broker and enter an order.

With a self-directed IRA, investments are executed on behalf of your IRA by your custodian.

For example, if you want to buy real estate in your IRA, then technically it will be your custodian who purchases that real estate on behalf of your IRA.

You, personally, won’t be involved in the transaction.  In fact, you can’t be involved in the transaction.  That’s one of those rules that’s very important that you respect.  (More about these rules in a bit.)

So if you find real estate you want to purchase in your IRA, what you’d do is get a purchase and sale agreement from the seller of the real estate, and send it to your custodian.

You’ll also have to fill out a form for your custodian called a “Direction of Investment” (or something similar).  This gives the custodian the instructions they need to make the investment for you.

When the process is complete, your custodian will have sent money from your self-directed IRA to the owner of the real estate, and the owner of the real estate will have transferred ownership of the property to your IRA…

…and your custodian is responsible for facilitating the transaction for you.

Self-Directed IRA Rules:  What Matters Most

It's true:  There are some rules you have to follow to use a Self-Directed IRA successfully… and some of them are very tricky.

That's why I've distilled it all down into the 10 most important rules for self-directed IRA owners.  Follow these, and you'll be well on your way to a totally hassle-free experience with your self-directed I.R.A.

Rule #1:  Avoid Prohibited Assets

The law that created IRA's – 26 U.S. Code § 408 – stipulates only 2 asset classes you must avoid:  Life Insurance and Collectibles.

If your self-directed IRA acquires ownership of any life insurance or collectibles, the IRS will view the transaction as a withdrawal of IRA funds by you, rather than as a purchase of the assets themselves.

This is called a “partial distribution” and quite probably will bring with it income taxes, penalties and interest for the IRA owner.

There are other problematic asset types – including S-Corporations and Collective Investment Trusts – that do not result in a distribution of the IRA, but should be avoided for other reasons.

Rule #2:  Avoid Disqualified Persons

Even though very few asset classes are prohibited for purchase in a self-directed IRA, there's one other rule that trumps everything else:

Your self-directed IRA may never conduct transactions with prohibited parties, regardless of any other consideration.

The technical terms for this is “disqualified persons“.

Generally speaking, disqualified persons include:

  • The IRA owner & spouse
  • Ancestors
  • Lineal Descendants and their spouses
  • Any businesses or entites owned or controlled by IRA owner
  • IRA Custodian, Investment Advisors & other Fiduciaries

This is a rather complex topic, and the ramifications for getting this wrong are very severe.

Should your self-directed IRA conduct a transaction that benefits a disqualified party – even if that benefit is indirect – then your IRS will be considered to be “fully distributed”, which is practically always cataclysmic for your IRA.

Rule #3:  Avoid Prohibited Activities

Certain activities are wholly prohibited in any IRA.  The IRA owner may never:

  • Borrow money from the IRA
  • Buy (or rent) assets from the IRA
  • Sell (or lease) assets to the IRA
  • Use the IRA as collateral
  • Personal use the assets of the IRA

Note that these activities are also prohibited for anyone who is considered a disqualified person for the IRA, not just the IRA owner.

In fact, these rules are essentially just an extension of the rules prohibiting transactions with disqualified parties.

Rule #4:  Consider IRA Alternatives

The Self-Directed IRA is undeniably incredibly powerful and very flexible.  But as you've seen, this tool can be very risky as well, since the effects of committing a prohibited transaction can be so utterly disastrous.

For that reason, it may be wise to consider the use of the Solo 401(k) as an alternative.

The Solo 401(k) offers everything that the IRA offers, along with a few additional (substantial) benefits:

  • Much higher contribution limits
  • Owner can borrow from the 401(k)
  • Fewer asset-class and other restrictions

Those reasons alone are worthwhile considerations, but the Solo 401(k) also offers this central benefit:

In a Solo 401(k) prohibited transactions can be corrected.

That's different from an IRA, in which prohibited transactions are usually both financially cataclysmic and completely irreparable.

The only downside is that not everybody is eligible for a Solo 401(k). But if you do qualify, it is an inarguably superior choice.

Rule #5:  File Annual Tax Returns for your IRA

IRA's (including Roth IRA's) are not always exempt from having to file annual tax returns or from paying annual income taxes.

If you're running an active business (versus passive investments) in your IRA, the income generated will be subject to a type of tax called “unrelated business income tax”, or UBIT for short.

This is the way that the government makes sure that tax-exempt entities – like your IRA – don't have an unfair advantage over normal taxable businesses.

Additionally, if your IRA uses debt financing (i.e., gets a loan) to purchase assets, any income generated by that asset will be categorized as unrelated debt-financed income (or UDFI for short) and is also subject to UBIT.

When more than $1,000 of unrelated business taxable income is generated in your IRA in a year, your IRA must file annual returns and pay income taxes for that year.

Rule #6:  Be Ready for Required Minimum Distributions

When you reach age 70 1/2, any traditional IRA's you own will be subject to a rule called the required minimum distribution.

This rule forces owners of traditional IRA's to take an annual distribution that's calculated on the basis of the IRA owner's age and account balance.

This is Congress' way of trying to be sure they get back all of the tax benefits they gave you when you took a tax deduction for making contributions.

But for an investor who has illiquid assets in his or her self-directed IRA, this could present great complication, as the required minimum distribution must be paid in cash, and must be paid by the IRA, not the IRA owner.

Be sure to plan in advance in order to avoid problems with your RMD obligation.  The RMD rules establish a truly draconian penalty for nonpayment of required minimum distributions.

Rule #7:  Be Prepared for an IRS Audit

Self-Directed IRA's aren't usually targeted for audit directly. Rather, when the IRS is otherwise auditing an individual's 1040 and discovers the presence of a self-directed IRA, it's common for them to expand the audit to include the self-directed IRA.

The IRS tends to be quite unwilling to negotiate when it comes to errors – particularly prohibited transactions – they find in a self-directed IRA during an audit.  If there's been a prohibited transaction in your IRA that they can identify, they've got you, and they know it, and they don't go easy on this issue.

For that reason, it's absolutely critical that you keep thorough records on every transaction, and all documentation for every account and asset held in your IRA.  Since the discovery of a prohibited transaction quite frequently leads the IRS to assess taxes, penalties and interest equal to 50-100% of the IRA balance, self-directed IRA's can certainly be a high-value target for them.

It's worth your time to be well documented and well prepared.

Rule #8:  Understand Asset Protection

“Asset Protection” refers to strategies used to keep your (or your IRA's) assets safe in the event that you are target of a lawsuit or choose to declare bankruptcy.

Where IRA's are concerned, there are two types of asset protection to consider:

  • External Asset Protection addresses the question:  What happens to your IRA if you face legal action or bankruptcy?
  • Internal Asset Protection addresses the question:  What happens to your IRA if it – or one of the assets it owns – faces legal action? (For example:  a slip-and-fall lawsuit from a tenant in a property owned by your IRA.)

It's widely believed that IRA's have extraordinary asset protection by law.  That's really not entirely true.

Where external threats are concerned – like lawsuits or bankruptcy – there is definitely some asset protection provided by law.  However, that protection isn't absolute, and is subject to limitation at the state level.

(For example, California courts take a very liberal approach and will strip IRA assets from the IRA owner if the court feels that the IRA owner has enough other assets or is sufficiently “young” to earn the money over again.)

Additionally, if it's discovered that you have committed a prohibited transaction in your IRA, all bets are off.  One of the tremendously negative effects of prohibited transactions is that the IRA ceases to be an IRA, and that means there's no legal protection for the account at all.  In that case, creditors or bankruptcy court can treat those assets as if they are not in an IRA.

Where internal threats are concerned, it's a matter of understanding that legal liability does not evaporate just because a particular asset is owned by your IRA.

As an example:  If your IRA owns a piece of land that is very dangerous, and you've done nothing to secure it, your IRA could be the target of a legitimate lawsuit, which would subject everything owned by the IRA to the risk of legal judgement.

The defense to this is to wisely structure the assets of the IRA using legal entities and other strategies in order to protect those assets in the event of attack.  This is a place where expert legal guidance is crucial.

Self-Directed IRA CustodiansSelf-Directed IRA Custodians & Administrators

The only difference between a self-directed IRA and a “normal” (I call them “Captive”) IRA is the custodian that holds the account.  Some IRA companies give you freedom, and some don't.  It's that simple.

So below, you'll find not just a comprehensive list of self-directed IRA custodians and administrators, but you'll also learn how to choose the one that's right for you… because this is a very important choice! 

Self-Directed IRA Custodians:  Comprehensive List

Accuplan Benefits Services406 S Jordan Pkwy #640South JordanUT84095(801) 266-9900
Advanta IRA3525 Piedmont Rd NE
Building 8, #101
AtlantaGA30305(678) 513-8913
American Estate & Trust6900 Westcliff Dr
# 603
Las VegasNV89145(702) 489-6403
American IRA137 Broad StreetAshevilleNC28801(828) 257-4949
American Pension Services (In Receivership)N/AN/AN/AN/AN/A
Bank of Utah2605 Washington BlvdOgdenUT84401(801) 409-5000
CAMA Plan122 East Butler Ave
Suite 100
AmblerPA19002(215) 283-2868
Central Bank of Utah75 North University AvenueProvoUT84601(801) 655-2126
Community National Bank225 Main StSenecaKS66538(785) 336-6111
Entrust Group555 12th Street
Suite 1250
OaklandCA94607(510) 587-0950
Equity Trust Company1 Equity WayWestlakeOH44145(440) 323-5491
First Midwest Bank1 East Erie StreetChicagoIL60611(312) 440-3022
Goldstar Trust Company1401 4th AveCanyonTX79015(806) 354-3540
Horizon TrustP.O. Box 30007AlbuquerqueNM87190(888) 205-6036
IRA Express74 N Main StCedar CityUT84720(435) 867-8008
IRA Financial Group1688 Meridian Ave #504Miami BeachFL33139(305) 538-9292
IRA Financial Trust Company221 S. Phillips Ave.
Suite 206
Sioux FallsSD57104(800) 472-1043
IRA Innovations100 Concourse Pkwy
#275
BirminghamAL35244(205) 985-0860
IRA Resources825 La Jolla BlvdLa JollaCA92037(858) 459-1212
IRA Services Trust1160 Industrial Rd
#1
San CarlosCA94070(800) 248-8447
Kingdom Trust Company1105 KY-121 bMurrayKY42071(270) 226-1000
Liberty Trust Company101 S. Reid Street
Suite 307
Sioux FallsSD57103(800) 473-1977
Madison Trust Company401 E 8th St
#200p
Sioux FallsSD57103(800) 721-4900
Mainstar Trust Company214 W 9th StOnagaKS66521(785) 889-4213
MidAtlantic IRA125 South Carroll Street
Suite 250
FrederickMD21701(240) 575-3880
Midland IRA1520 Royal Palm Sq. Blvd
#320
Fort MyersFL33919(239) 333-1032
Millennium Trust Company2001 Spring Rd
#700
Oak BrookIL60523(630) 368-5600
Mountain West IRA10096 W Fairview Ave
# 160
BoiseID83704(208) 377-3311
Nevada Trust Company9130 W Russell Rd
Suite 310
Las VegasNV89148(702) 696-0000
New Direction IRA1070 W Century Dr
#101
LouisvilleCO80027(303) 546-7930
Next Generation Trust Company75 Livingston Avenue
Suite 304
RoselandNJ7068(973) 533-1880
NuView IRA280 S Ronald Reagan Blvd
#200
LongwoodFL32750(407) 367-3472
1560 Broadway
Suite 400
DenverCO80202(866) 818-4472
Polycomp Administrative Services3000 Lava Ridge Court
Suite 130
RosevilleCA95661(800) 952-8800
Preferred Trust Company2471 W Horizon Ridge Pkwy
#100
HendersonNV89052(702) 990-7892
Premier Trust4465 S. Jones BlvdLas VegasNV89103(702) 507-0750
Provident Trust Group8880 W Sunset Rd
#250
Las VegasNV89148(888) 855-9856
Quest IRA17171 Park Row Dr
#100
HoustonTX77084(281) 492-3434
Real Trust IRA Alternatives312 East Trow Avenue
Suite 201
ChelanWA98816(509) 888-8100
Self-Directed IRA Services LogoPO Box 23149WacoTX76702(512) 637-5739
Sovereign International Pension1314 Alt 19Palm HarborFL34683(727) 286-6237
Specialized IRA Services6100 Indian School Rd NE
#215
AlbuquerqueNM87110(505) 514-0539
STC Inc. (Security Trust Company)223 N Prospect StHagerstownMD21740(301) 665-2830
Summit Trust (In Receivership)8861 West Sahara Ave
Suite 215
Las VegasNV89117(877) 268-9115
Sunwest Trust10600 Menaul Blvd NEAlbuquerqueNM87112(505) 237-2225
uDirect IRA8 Corporate Park
#210
IrvineCA92606(714) 831-1866
Vantage IRA20860 N Tatum Blvd
#240
PhoenixAZ85050(480) 306-8404

What is a Self-Directed IRA Custodian?

When Congress created the IRA back in 1974, they decided that you and I weren't sufficiently competent to handle these accounts on our own.  (Yes, I know it's a harsh viewpoint… but it's still true!)

So they decided that if you want to have an IRA, you'd need to go to a special type of financial company to set it up.

This type of company is called a “custodian”.  Custodians meet specific requirements established by the IRS.

To understand what a self-directed IRA custodian does, the easiest comparison is a stock brokerage like eTrade or Charles Schwab.

What do stock brokers – and IRA custodians – do?

  • They execute transactions on behalf of their clients
  • They keep some financial and accounting records for the account
  • They report to the IRS about how the account holder is using the account.

Your self-directed IRA custodian does exactly the same things… but it's sometime a bit more complicated.

For example, consider a real estate investment.  Somebody – that's you – will have to find a great deal and get a contract for the purchase of that property.  But you can't sign the contract yourself.  You've got to forward it on to the custodian for their signature, because…

the assets in your IRA are technically owned by your custodian, for your benefit.  So everything must have the custodian's name on it, not yours.

Similarly, real estate in your IRA will need to do things like get hazard insurance and pay property taxes.  It's your IRA custodian who will – at your direction – handle these tasks.

Picking the right self-directed IRA custodian is one of the most important choices you'll make.  Please study the information I'm providing to you so you get it right the first time.

What is a Self-Directed IRA Administrator?

If you have an IRA of any type, you’ve got to have a custodian… the law requires it.

But some custodians don’t deal with the public directly.  Instead, they just do the work of holding IRA accounts, but they don’t do any marketing or customer service themselves.

So if some custodians do no marketing, how do they find clients like you and me?

They partner with IRA administrators.  IRA administrators are usually independent companies that serve as the marketing and customer service departments of custodians.

So while you’re evaluating IRA custodians, you’ll likely end up evaluating several IRA administrators, too, because sometimes the difference isn’t entirely obvious.

Some people try to make the case that you should never use an administrator, and you should only work directly with custodians who serve the public.

I don’t think that’s correct.  So far, I’ve never encountered anyone who got better or worse service just because they chose a custodian over an administrator or vice versa.

At the end of the day, you will use an IRA custodian one way or the other.  The law requires it…

…The only question is whether that custodian does their own marketing and customer service, or whether there’s an Administrator on the front end that handles that for them.

But remember this:  If you do use an IRA administrator instead of using a custodian directly, you still must evaluate the financial health of the custodian that serves that administrator, because it’s the custodian who actually holds your money and assets.

Which is best:  Custodian or Administrator?

My friends who run IRA custodial companies won't like my saying so, but the truth is:  It doesn't matter whether you use a custodian or an administrator.

Some custodians try to make the argument that it's better for you to go “direct” to the custodian, but so far, I've never seen any evidence that it makes any difference.

My only hesitation in making the “it doesn't matter” statement is this:  I'm not entirely confident that there's a huge amount of legal support for the concept of a IRA “third party administrators”, and it's possible new regulations could be passed which limits eliminates them altogether.  But in such an extreme case, I suspect the accounts managed by administrators would simply be transitioned to the custodian already serving the account.

But that legal issue is a theoretical concern, and not an actual one.

As for right now, you should choose the IRA company – whether custodian or administrator – that you feel meets your needs.

Which IRA Provider Is Best For My Self-Directed IRA?

This is actually a pretty complicated issue, but I’ll make it simple for you.

To choose the best custodian for you, I believe you should consider these things:

  • Type of Assets You’ll Purchase: If you only want to buy stocks and mutual funds, then go with a custodian like eTrade or Charles Schwab who specializes in those.  But if you want to invest in real estate or other non-Wall Street assets, you’ll need a truly self-directed IRA custodian.
  • Customer Service Standards: How quickly will your custodian fund your investments?  Will you have a dedicated account representative?  Does your custodian have experience in the specific type of asset you’d like to purchase?
  • Fees: Most IRA custodians charge an annual fee plus a flat fee for specific services or they charge on the basis of the size of your account.  Usually, flat fee arrangements are less expensive.
  • Financial Stability: Is your custodian financially strong?  While it is very rare, sometimes custodians go out of business and cause huge problems.  Note that merely having a large number of accounts or a lot of assets under management is not the same as being financially strong.

For your convenience, here's a list of every self-directed IRA custodian or administrator (and their contact information) known to us at SelfDirected.org.

Will My IRA Provider Find Investments For Me?

No.  In fact, providing investment opportunities is expressly against the policy of every self-directed IRA custodian I’ve ever encountered.

Providing third-party investment advice is an entirely different business and requires entirely different licensing than is required to be an IRA custodian or IRA administrator.

Remember:  Self-Directed IRA’s are self-directed, not custodian-directed, and that’s to your benefit.  You get to – and must – call the shots yourself.

Checkbook IRA LLC

Want to have instant access to your IRA capital?  Would you like to have literal checkbook control of your retirement savings… and even save a ton of custodial fees in the process?  Then the Checkbook IRA (aka the IRA LLC) is for you.  But be forewarned:  This is the most perilous way to handle your Self-Directed IRA.  Legal expertise is necessary, and the cost of errors can be devastating.  But if ultimate control and instant access is what you want, the Checkbook IRA LLC will definitely provide it to you:

What is a Checkbook IRA LLC?

The “Checkbook IRA LLC” is a very important strategy used by some investors who need to have instant access to their capital (like anyone who buys real estate or other assets at cash-only auctions).

Under normal circumstances, you have to take some extra steps for your IRA to purchase assets through a self-directed IRA custodian.  Those extra steps can take time, and for many investors, time is money.

There are some important things you should understand about the Checkbook IRA LLC, so read on…

Here's How You Can Establish a Checkbook IRA LLC

Here are the steps you’d take to use this strategy:

  • Step 1: Hire a lawyer to create a special type of LLC (company)
  • Step 2: Appoint yourself as the manager (President/CEO) of the LLC
  • Step 3: Transfer the money in your IRA to the LLC’s bank account in exchange for your IRA’s ownership of the LLC
  • Step 4: Make investments on behalf of the LLC

This is a strategy that certainly requires the involvement of a highly-skilled IRA attorney, as it's possible to include language – or fail to include language – in the LLC itself that could wholly invalidate every transaction ever performed therein.

Why is a Checkbook IRA LLC Risky?

Like every other case where you have greater authority, the Checkbook IRA LLC also imposes much greater responsibility on you than if you circumvent the involvement of your custodian.

If you use the Checkbook IRA LLC, you must make every effort to become and remain well informed about the rules imposed on Self-Directed IRA’s by the IRS, because it’s very easy to unknowingly cross the line and commit a prohibited transaction

…and those kinds of errors can be both devastating and irreparable.

 

Does a Checkbook IRA LLC Change The Tax Benefits of my Self-Directed IRA?

With the caveat that I'm merely an expert-level layman on the topic, and not actually a licensed tax adviser, I offer the following thoughts on this topic:

Usually, checkbook IRA LLC's don't change the fundamental filing requirements of your self-directed IRA because the LLC that is used as a conduit to checkbook control is just a single-member LLC, which is itself usually “invisible” for tax purposes.

As a practical matter, what that means is that most of the time, using a checkbook IRA LLC won't increase or decrease either your filing requirements or your IRA's (or your) income tax obligations.

But there are exceptions, to be certain.

For example:  If the LLC you use in your checkbook IRA is a multi-member LLC, then there will definitely be filing requirements in the form of partnership information returns.

Additionally, if you were to [foolishly] opt to have your self-directed IRA's LLC be taxed as anything other than a single-member LLC (such as a corporation or partnership), then you'd be subject to filing requirements and potentially tax requirements as well.

And of course, if your LLC is used to run an active business, or if it generates income in connection with debt financing (such generating rental income from a property your IRA purchased with a loan), then your IRA will quite probably be obligated to UBIT (unrelated business income tax), a particularly expensive form of income tax against all such income.

There may be other exceptions as well, but these are the big ones.

Specialty Self-Directed IRA's

You've probably heard of a thing called a “Real Estate IRA”… or maybe a “Gold IRA”… or maybe even a “Cryptocurrency IRA”.

Do you think that the U.S. Congress actually created something called a “Cryptocurrency IRA”?  Ummm…. no.

So here's what those terms actually mean…

What is a Real Estate IRA?

The term “real estate IRA” is a marketing term that doesn’t appear anywhere in U.S. law.

It’s just a term created by some self-directed IRA custodians to suggest that their particular IRA is better for investing in real estate than IRA’s offered by other custodians.

In reality, all IRA’s have precisely the same investment capabilities under the law.

Some custodians are certainly more experienced with real estate investments than others, and that is a worthy consideration.

But at the core, all Self-Directed IRA’s – and all IRA’s in general – have precisely the same investment capabilities.

What is a Gold IRA (or “Precious Metals IRA”)?

The terms “Gold IRA” or “Precious Metals IRA” are marketing terms that do not appear anywhere in U.S. law.

Those are terms created by some self-directed IRA custodians to suggest that their particular IRA is better suited for investing in gold, silver or other Precious Metals than IRA’s offered by other custodians.

In reality, all IRA’s have precisely the same investment capabilities under the law, including where precious metals are concerned.

Some custodians are certainly more experienced with gold, silver or other precious metals investments than others, and that is a worthy consideration.

But at the core, all Self-Directed IRA’s – and all IRA’s in general – have precisely the same investment capabilities, including where investments in gold, silver and other precious metals are concerned.

What is a Cryptocurrency IRA?

The term “Cryptocurrency IRA” is a marketing term that doesn’t appear anywhere in U.S. law.

It’s just a term created by some self-directed IRA custodians to suggest that their particular IRA is better for investing in cryptocurrencies than IRA’s offered by other custodians.

In reality, all IRA’s have precisely the same investment capabilities under the law, including where cryptocurrencies are concerned.

Some custodians are certainly more experienced with cryptocurrency investments than others, and that is a worthy consideration.

But at the core, all Self-Directed IRA’s – and all IRA’s in general – have precisely the same investment capabilities, including cryptocurrencies.

Real Estate In Your Self-Directed IRA

Without a doubt, the single most popular asset class for self-directed IRA owners is real estate.  Every truly self-directed IRA company I've ever asked has told me that real estate is their largest single asset class.

So… YES, real estate in your IRA is possible and legal.  But exactly how do you invest in real estate in your IRA?  You do it by understanding these things:

 

Is it Legal To Buy Real Estate in my IRA?

We don't give out legal advice here at SelfDirected.org, so talk with a lawyer if that's what you're after.  But as an expert-level layman on the topic, I'll tell you this:  More dollars in self-directed IRA's are allocated to real estate than any other asset class.

To be clear, I don't actually know that last item to be a fact.  But I'm led to that conclusion by a substantive anecdote:  Literally every single self-directed IRA company that I've asked about this – and there have been many – has confirmed that real estate is the top asset class for their self-directed IRA clients.

So, yes, you can buy real estate in your IRA.  Recall that only collectibles, life insurance and s-corporations are fundamentally problematic as a self-directed IRA investment, and real estate certainly isn't any of those things.

But always remember the rules about disqualified persons:  Even though real estate is compatible with your IRA, you still have to be sure that you don't buy it from or sell it to any disqualified parties… and don't let any disqualified parties benefit from it in any way.

Who Will Find Great Real Estate Deals for my IRA?

Ouch… if you're asking this question, you may not understand the fundamental nature of self-directed IRA's.

The basic idea is this:  You've got to find your investments yourself.  Remember the word “self” in “self-directed” IRA?  That word refers to YOU!  You are in control of directing your IRA's investments.

In case you think your custodian will find great real estate deals for your IRA, think again.  Your custodian (or administrator) won't do it for you.  In fact, it's legally problematic for them to get anywhere near investment advice.

So here's my advice about finding real estate investment deals for your IRA:

Don't plan to use your self-directed IRA for real estate investments unless you have a clear plan for how you'll find those deals.

Real estate is a uniquely wonderful asset class, because there are many “diamonds in the rough” just waiting to be discovered.  But the key is that you must have a way to discover them.  If you don't, your investment capital will languish in your self-directed IRA… and that's a terrible thing.

Can I Get A Loan To Buy Real Estate In My IRA?

No.

But there's more to it than that…

You can't get a loan, which is used to finance a real estate deal that will be owned by your IRA.  That's a definite “no-go”.

But your IRA is allowed to get a loan on it's own behalf, and to purchase real estate using that borrowed money… as long as you understand the 3 Big Issues…

Issue #1:  Neither you, nor any disqualified persons, are allowed to provide the credit or other backing for the loan.

Issue #2 is collateral.  From the point of view of a lender, a great idea would be to require you to place the IRA account itself as collateral for the loan.  But you can't do that… using your IRA in that way is a clear prohibited transaction.

But every lender worth their salt is going to demand some sort of collateral to protect their capital.  So how can you get a loan that's compatible with your IRA and still make your lender happy?

Most people use something called a non-recourse loan which are provided by special non-recourse lenders.  Instead of placing your entire IRA as collateral as for a regular loan, with a non-recourse loan, you only put up the property itself as collateral, and the lender agrees that all of the other IRA assets are out of bounds so that you're not using the entire IRA – with all of the assets therein – as collateral.

Issue #3 is taxation.  If your self-directed IRA borrows money to buy real estate, the IRS isn't going to extend the same tax advantages to profits generated from that money as to profits generated from money that you actually contributed.

In fact, if your debt-financed real estate generates income, the IRS will consider that money to be “Unrelated Debt-Financed Income (UDFI)” which is subject to a special tax called “Unrelated Business Income Tax (UBIT)”.

I won't bore you with the details of that tax here, but suffice it to say that your IRA will likely owe annual tax on a portion of the real estate income equal to the proportion of debt financing against the property.

Here's a [drastic] simplification:  If your real estate generates $10,000 of net income in a year and 60% of the property value is owed to a lender, then 60% of the $10,000 will be subject to income taxes.

So to loop back to the original question:  Yes, you can use debt to finance real estate investments in your IRA, but you've got to be sure you handle the 3 big issues – disqualified parties, collateral and taxation – totally correctly.

Get Exclusive
Investment Tips

Learn how to get more out of your self-directed IRA or 401k with exclusive tips and insights that I only share with my private newsletter subscribers.

What are your questions about Self-Directed IRA’s?

Please enter your name.
Please enter a message.

About The Author

Bryan Ellis

 

Bryan Ellis is host of Self Directed Investor Talk, America's #1 podcast and for affluent self-directed investors. He's also an expert in self-directed IRA's, solo 401k's and 1031 exchanges. You can find Bryan's writing in very highly respected publications including Forbes, Entrepreneur and TheStreet. Bryan lives in metro Atlanta, Georgia with Carole Ellis - his wife, business partner and best friend - and his 4 children ranging in age from 2 to 19.