Are you interested in learning more about the Self-Directed IRA? You’re in the right place. Our Self-Directed IRA FAQ page will answer any questions you may have regarding the plan.
The Self-Directed IRA is an individual retirement account that allows participants to save for retirement in a tax-efficient manner. A Self-Directed IRA shares the same characteristics as a Traditional IRA, but it gives participants more investment options. Participants of the plan can make traditional investments (stocks, bonds, etc.) as well as alternative asset investments (real estate, precious metals, etc.).
By establishing a Self-Directed IRA through a Self-Directed IRA (passive) custodian, plan participants will be allowed to purchase almost any type of investment. This includes stocks, bonds, ETFs, real estate, cryptocurrency, precious metals and more. A Self-Directed IRA through a bank or financial institution limits plan participants to the financial products they sell, which only include stocks, bonds, ETFs and other traditional investments.
It generally takes anywhere from 7-12 days to set-up the Self-Directed IRA LLC structure. Our in-house retirement tax professionals will complete all the necessary IRA rollover or transfer paperwork in order to help transfer your existing retirement funds tax-free to the new passive custodian so that your funds will be available for investment in a matter of days.
Review the fee structure of the Self-Directed IRA custodian. Is it a flat fee or based on assets? Ask if there are hidden fees you should be aware of. Determine whether there is a minimum balance requirement and if they allow for checkbook control to make investments without custodian consent.
At IRA Financial, we offer a flat fee, no hidden fees and checkbook control. You will receive unlimited access to our qualified specialists, and our commitment to technology helps clients establish their account, rollover funds and perform investments quickly and seamlessly on a secure platform.
The cost for establishing a Self-Directed IRA varies depending on the IRA custodian you choose. At IRA Financial, you can find Self-Directed IRA costs for a one-time establishment fee annual IRA custodian fee on our fee page.
The maximum contribution for a Self-Directed IRA or Self-Directed IRA LLC in 2019 is $6,000 for participants under age 50. There is a $1,000 catch-up contribution for participants who are age 50 and older, which puts the maximum contribution at $7,000.
Plan participants can make almost any type of investment with a Self-Directed IRA. The Internal Revenue Service (IRS) only describes the type of investments that are prohibited, which are very few. The following are common types of investments that can be made with a Self-Directed IRA:
Residential or commercial real estate
Limited Liability Companies
Limited Liability Partnerships
Stocks, bonds, mutual funds
One, one-half, one-quarter or one-tenth ounce U.S. gold coins are approved. American Gold Eagle coins and other gold coins at least 99.5% pure are also approved. IRA holders can purchase any gold of a certain fineness that is in the physical possession of a trustee that meets the requirements for IRA trustees under Code Sec. 408(a).
A Self-Directed IRA is a type of IRA structure that allows the IRA holder to gain control over his/her retirement funds. There are essentially three types of Self-Directed IRAs.
1. Self-Directed IRA offered by financial institutions
2. Custodian Controlled Self-Directed IRA
3. Checkbook Control Self-Directed IRA
Unlike a typical financial institution, most IRA custodians generate fees simply by opening and maintaining accounts and do not offer any financial investment products or platforms. The funds are generally held with the IRA custodian who, at the IRA holder’s direction, invests the funds accordingly. You can still make any type of investment, but you will need permission from the custodian to execute the transaction.
Checkbook control refers to a Self-Directed IRA owner who has complete control over his/her retirement account and investment decisions. An LLC is established as a business entity and can have its own checking account. With checkbook control, the IRA owner must simply write a check, use a debit card or wire funds from the LLC bank account to make an investment. Custodian consent is not required with checkbook control. A Self-Directed IRA with checkbook control is the same as a Self-Directed IRA LLC.
If you have a Self-Directed IRA, you must have a custodian. Pursuant to section 408 of the Internal Revenue Code, a bank (Wells Fargo), financial institution (Vanguard) or authorized trust company (IRA Financial Trust) must establish and administer your IRA.
The Self Directed IRA LLC structure was affirmed in the Tax Court case Swanson v. Commissioner in 1996 and further confirmed by the IRS in Field Service Advisory in 2001. The Self-Directed IRA LLC allows investors to use retirement funds to make virtually any investment, such as real estate and cryptocurrency. The IRS has allowed investors to use retirement funds to invest in such assets since 1974.
A Limited Liability Company (LLC) is a company that can be taxed as a partnership. This is beneficial because the LLC won’t pay any taxes on gains. Instead, the owner of the LLC will be liable for any taxes just as if they earned the money themselves. Because the your IRA owns the LLC, there are no taxes unless you are running a business that is unrelated to the purpose of the IRA, using debt financing or taking a distribution from your IRA. In addition, the LLC offers limited liability and asset protection with respect to the assets of the IRA.
Internal Revenue Code (IRC) Sections 4975 & 408 prohibit fiduciary (IRA owner) and other Disqualified Persons from engaging in certain types of “prohibited transactions”. Fiduciary prohibited transactions appear to be the most common type of prohibited transaction with a Self-Directed IRA. Learn more about the Self-Directed IRA prohibited transaction rules.
A Disqualified Person includes virtually anyone who has a direct or indirect relationship to the Self-Directed IRA plan other than a participant or beneficiary. Disqualified persons include:
The IRA owner
The IRA participant’s spouse
The IRA’s participant’s ancestors and lineal descendants (mother/father/daughter/son)
Spouses of the IRA participant’s lineal descendants (son/daughter’s spouse)
Fiduciaries of the plan (custodian or trustee)
Investment managers and advisors
Any corporation, partnership, trust, or estate in which the IRA holder has a 50% or greater interest
Learn more about the primary disqualified persons under IRC section 4975.
If participants use IRA funds to purchase collectibles, such as art, this is seen as a disqualified transaction. Furthermore, IRA funds cannot be used to purchase life insurance contracts. The following are transactions you cannot make with a Self-Directed IRA:
Works of art
Metal or gem
Rugs or antiques
Disqualified transactions can be found under Internal Revenue Code (IRC) section 408.
Your investment may be disallowed under Internal Revenue Code Section 408 or result in a “Prohibited Transaction” under Internal Revenue Code Section 4975 and could result in the immediate disqualification of your IRA. Although IRAs are generally not ERISA plans, the Department of Labor has jurisdiction over these plans for purposes of the prohibited transaction rules, including individual requests for exemptions from those rules.
Retirement accounts are protected against fraud or theft if they are deposited in an FDIC insured account. FDIC insurance covers all deposit accounts. The standard insurance amount is $250,000 per depositor, per insured bank, for each account ownership category. If an individual removes the funds from the FDIC account for any reason, the funds are no longer granted FDIC insured protection and would not be protected against fraud.
IRA Financial Group is committed to helping our clients make safe and financial rewarding investments with their Self-Directed IRA accounts. While self-directed IRAs can be a safe way to invest retirement funds, investors should be mindful of potential fraudulent schemes.
Retirement funds of a Self-Directed IRA LLC (checkbook control) must be deposited first with an IRA custodian/administrator before they are sent to the LLC. The IRA custodian, which is an FDIC insured bank, would be the financial institution where the funds are deposited before they are wired to the IRA LLC. FDIC insurance covers all deposit accounts, including checking and savings accounts, money market deposit accounts and certificates of deposit. The standard insurance amount is $250,000 per depositor, per insured bank, for each account ownership category.
In general, co-mingling personal funds and IRA funds is a practice investors should avoid, but there are instances when using your IRA funds and personal funds to make a transaction is allowed. However, the IRA must exclusively benefit from the transaction. Learn more about partnering with your Self-Directed IRA.
You can use your Self-Directed IRA to buy a house, but you will not be able to live in the house until you reach retirement age. The IRS has always permitted real estate to be held inside individual retirement accounts and is fully permissible under the Employee Retirement Income Security Act of 1974 (ERISA).
In general, all passive income generated by the Self-Directed IRA LLC goes back into the Self-Directed IRA LLC without tax. The Self-Directed IRA LLC offers the advantages of tax deferral, or tax-free gains in the case of a Roth, allowing you to invest your retirement funds in almost anything, including real estate tax free.
A Self-Directed IRA can get a mortgage to purchase property, but it must be a nonrecourse loan. If the IRA fails to make the payments, the only recourse the lender has is the property itself.
If an IRA obtains a loan to purchase a piece of property, the UDFI tax will apply to the debt-financed portion of the property. Gain on the profit from the sale of the leveraged assets is also subject to the UDFI tax (unless the debt is paid off more than 12 months before the property is sold). Because UDFI is a type of Unrelated Business Taxable Income (UBTI), the income generated may be subject to close to a 37% tax for 2019.
Determining whether a transaction or series of real estate transactions will trigger the Unrelated Business Taxable Income (UBTI) tax is based off the facts and circumstances. In general, the IRS and the courts will look at the following factors to determine whether the retirement account transaction triggered the UBTI tax:
Frequency of transactions
Level of continuity
Level of improvement
The proximity of sale to purchase
Purpose for which the asset was acquired
Personal activities of taxpayer
Internal Revenue Code Section 511 taxes UBTI at the rates applicable to corporations or trusts. A Self-Directed IRA subject to UBTI is taxed at the trust tax rate because an IRA is considered a trust. For 2019, a Self-Directed IRA Plan subject to UBTI is taxed at the following rates:
$0 – $2,550 = 10% of taxable income
$2,551 – $9,150 = $255 + 24% of the amount over $2,550
$9,151 – $12,500 = $1,839 + 35% of the amount over $9,150
$12,501 + = $3,011.50 + 37% of the amount over $12,500
Normally, when an IRA owner purchases real estate with a mortgage, the traditional loan provides for recourse against the borrower (i.e., personal liability for the mortgage). However, if the IRA purchases real estate and secures a mortgage for the purchase, the loan must be non-recourse; otherwise there will be a prohibited transaction.
An IRA is not permitted to be an “S” Corporation shareholder. In order to be considered an “S” corporation, shareholders must be U.S. citizens or residents and must be natural persons, so corporate shareholders, partnerships, and multi-member LLCs are excluded.
The IRA and the IRA owner cannot invest 50% equally in a joint venture without triggering a prohibited transaction. However, various case law suggests that investing retirement funds in a closely held entity which is owned by a disqualified person who holds less than 50%, even as low as 10%, can trigger a prohibited transaction. It is good practice to not invest retirement funds into any closely held entity that is owned by yourself or a disqualified person.
If the IRA owner or any other disqualified person is not involved in the business, the IRA owner can use his/her Self-Directed IRA funds to invest in the business. However, any business regularly carried on or by a partnership or LLC of which the Self-Directed IRA LLC is a partner or member is an unrelated business and may trigger the unrelated business taxable income tax, which is close to a 37% tax for 2019.
An IRA owner may have multiple IRA accounts in his/her Self-Directed IRA LLC, but each account must be a member of the LLC and have an interest in the LLC based on the amount contributed. Profits and losses would be allocated to the IRA accounts based on the accounts percentage interest.
IRA owners can have a Traditional and Roth IRA as members of the Self-Directed IRA LLC, but it is important to keep separate records for each account. The distribution and tax rules are somewhat different.
You and your spouse’s IRA can co-invest in one Self-Directed IRA LLC entity. Each spouse’s IRA would own a percentage of the LLC based on the amount contributed. In some cases, it may make sense for each spouse to use a separate Self-Directed IRA LLC entity to make their investments. Instances such as investment disputes and/or divorce could end up complicating matters.
IRA holders may transfer a Roth IRA to a Self-Directed Roth IRA LLC “checkbook control” structure tax-free. By using a Self-Directed Roth IRA LLC structure, all gains are tax-free and any distributions taken after the age of 59 and 1/2 are tax-free so long as the Roth IRA has been opened at least 5 years.
Get in Touch
To learn more about the Self-Directed IRA, we encourage you to download our free Self-Directed IRA info kit. To get started, quickly and easily establish the Self-Directed IRA on our free app and contact IRA Financial at 800-472-0646 to speak with a specialist.