IRA Financial Blog

Self-Directed Roth IRA

Self-Directed Roth IRA Secret
Key Points
  • A Self-Directed Roth IRA allows retirement investors to make traditional and alternative investments.
  • If you wish to make alternative investments, like real estate, establish your account at a Trust site – not a bank or financial institution.
  • Alternative investments are growing in popularity due to the volatile stock market.

In this article, we will explain the secret of the Self-Directed Roth IRA and why, if you’re a retirement investor, you should use the Self-Directed Roth IRA to make to have the freedom to make virtually any type of investment, tax-free. 

Roth IRA vs Self-Directed Roth IRA

A Roth IRA allows IRA holders to enjoy tax-free distributions. This is because the Roth IRA was funded with after-tax dollars, meaning you don’t receive an upfront tax-break, but all income and gains on your investment will be tax-free when you take a qualified distribution (in order for a Roth IRA distribution to qualify, the IRA must be opened for at least five years, and the IRA holder must be age 59 1/2 or older). 

Many retirement investors use their Roth IRA to purchase traditional investments, like stocks, bonds, CDs, mutual funds and the like. The breadth of investments you can make with your IRA is typically determined by the company that holds the account. For example, if your Roth IRA is held by a bank or financial institution, you will most likely only be limited to make tax-free traditional investments. 

Read More: What is a Self-Directed IRA LLC?

Self-Directed Roth IRA

If you establish your Roth IRA at a trust company, such as IRA Financial Trust, you can self-direct your Roth IRA. With a Self-Directed Roth IRA, you can still make tax-free investments, but your scope of investments are no longer limited to just traditional investments; you can also make alternative investments, like real estate and cryptocurrency, with a Self-Directed Roth IRA – tax-free.

The Self-Directed Roth IRA in a Nutshell

A Self-Directed Roth IRA is popular because investors are able to make almost any type of investment, including traditional investments if they wish to do so.

A Self-Directed IRA can be either Roth or traditional. With a Self-Directed IRA, you decide what types of investments to make. Additionally, you determine when you want to buy and sell. All decisions are truly yours, hence the name “self-directing.”

With a Self-Directed Roth IRA, if you qualify to make contributions, all distributions are tax-free. This includes the investment returns as long as the distributions meet certain requirements. Unlike a traditional IRA, you can contribute to a Roth IRA as long as you earn income. With a traditional IRA, you can’t make contributions after you reach 72.

Read More: Types of Self-Directed IRAs

Self-Directed Roth IRA for Alternative Asset Investments

You can make almost any type of investment with a Self-Directed Roth IRA. The only investments that you cannot make are those the IRC prohibits, which are very few. Find out the prohibited investments with a Self-Directed Roth IRA.

The primary advantage of using a Self-Directed IRA is the ability to make alternative asset investments. The term “alternative assets” generally includes any non-traditional asset class. It covers investments that do not trade publicly on an organized exchange. This includes investments outside of public stocks, bonds, money markets or cash.

Typically, alternative investments are complex, illiquid, and more difficult to value than traditional assets. They usually offer the opportunity to earn investment returns in excess of those generally available in the traditional financial markets.

So if you dislike the obligatory investments in stocks or mutual funds, or you have an investment that you want to actualize with your Roth IRA funds, then the Self-Directed Roth IRA LLC is your solution.

Read More: What are Alternative Assets?

Self-Directed Roth IRA offers one the ability to use his or her retirement funds to make almost any type of investment on their own without requiring the consent of any custodian or person tax-free! The IRS only describes the type of investments that are prohibited, which are very few. Self-Directed Roth IRA investments can range from stocks and bonds to real estate and cryptocurrencies.

The following are some examples of Self-Directed Roth IRA investments:

  • Residential or commercial real estate
  • Domestic or Foreign real estate
  • Raw land
  • Foreclosure property
  • Mortgages
  • Mortgage pools
  • Deeds
  • Private loans
  • Tax liens
  • Private businesses
  • Limited Liability Companies
  • Limited Liability Partnerships
  • Private placements
  • Precious metals and certain coins
  • stocks, bonds, mutual funds
  • Foreign currencies

Real Estate

The IRS permits using a Self-Directed Roth IRA to purchase real estate or raw land. Real estate is the most popular investment made with a Self-Directed Roth IRA. Making a real estate investment is as simple as writing a check. Since you are the manager of your Self-Directed Roth IRA, you have the authority to make investment decisions on behalf of your IRA. One major advantage of purchasing real estate with a Self-Directed Roth IRA is that all gains are tax-free and will not be subject to tax upon withdrawal or distribution. This is because unlike traditional IRAs, you are generally not subject to any tax upon taking Roth IRA distributions once you reach the age of 59 1/2.

For example, if you purchased a piece of property with your Self-Directed IRA for $75,000 and later sold the property for $150,000, the $75,000 of gain would generally be tax-free. Whereas, if you purchased the property using personal funds (non-retirement funds), the gain would be subject to federal income taxes and in most cases state income tax.

Tax Liens

The IRS permits the purchase of tax liens and tax deeds with a Self-Directed Roth IRA. By using a Self-Directed Roth IRA to purchase tax-liens or tax deeds, your profits will grow tax-free!

Loans and Notes

The IRS permits the use of Roth IRA funds to make loans or purchase notes from third parties. By using a Self-Directed Roth IRA to make loans or purchase notes from third parties, all interest payments received would be tax-deferred until a distribution is taken (Traditional IRA distributions are not required until the Roth IRA owner turns 70 1/2). In the case of a Self-Directed Roth IRA, all interest received would be tax-free.

For example, if you used a Self-Directed Roth IRA to loan money to a friend, all interest received would flow back into your Roth IRA tax-free. Whereas, if you lent your friend money from personal funds (non-retirement funds), the interest received would be subject to federal and in most cases state income tax.

Private Businesses

With a Self-Directed Roth IRA you are permitted to purchase an interest in a privately held business. The business can be established as any entity other than an S Corporation (i.e., limited liability company, C Corporation, partnership, etc.). When investing in a private business using Roth IRA funds, it is important to keep in mind the “Disqualified Person” and “Prohibited Transaction” rules under IRC 4975 and the Unrelated Business Taxable Income rules under IRC 512. The retirement tax professionals at the IRA Financial Group will work with you to develop the most tax-efficient structure for using your IRA to invest in a private business.

Precious Metals and Coins

Internal Revenue Code Section 408(m) lists the type of precious metals and coins that are permitted investments using IRA funds:

  • One, one-half, one-quarter or one-tenth ounce U.S. gold coins (American Gold Eagle coins are the only gold coins specifically approved for IRAs. Other gold coins, to be eligible as IRA investments, must be at least .995 fine (99.5% pure) and be legal tender coins.
  • one ounce silver coins minted by the Treasury Department;
  • any coin issued under the laws of any state;
  • a platinum coin described in 31 USCS 5112(k) ; and
  • gold, silver, platinum or palladium bullion (other than bullion that is made into a coin) 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).

By using a Self-Directed Roth IRA to purchase IRS-approved precious metals or coins, one is able to seemingly better diversify their retirement portfolio as well as generate tax-free gains on the sale of the metals or coins.

Internal Revenue Code Section 408(m) identifies the types of coins and precious metals that may be purchased using a Self-Directed Roth IRA.

Section 408(m)(3)(A) lists the type of coins that may be purchased with retirement funds, which generally are American Eagle and U.S. state minted coins of a certain finesse. The Technical and Miscellaneous Revenue Act of 1988 also allowed for the purchase of state minted coins. Whereas, IRC 408(m)(3)(B), refers to gold, silver, or palladium bullion of a certain finesse which must be held in the “physical possession” of a U.S. trustee, as described under subsection IRC 408(a), and which essentially refers to a bank, financial institution, depository, or approved trust company.

IRA Financial Group suggests that all clients seeking to purchase IRS approved coins or precious metals/bullion with their retirement account hold them in the physical possession of a trustee, such as a depository. The IRS, as outlined in IRC 408(m)(3)(B) clearly does not allow any individual to hold IRS approved coins or precious metals/bullion personally, such as in their house. However, the Technical and Miscellaneous Revenue Act of 1988 Senate amendment seems to suggest that state minted coins can be held by a person other than the IRA holder, without referencing the term trustee, as defined in IRC Section 408. Nevertheless, we recommend that IRS approved coins should not be held personally by the IRA holder and should be held at a trustee, as defined in IRC 408.

For Self-Directed Roth IRA clients seeking to hold IRS approved coins and precious metals at a bank safe deposit box, we believe that this position has some risk, as the IRS has not offered any formal guidance. If the bank where the safe deposit box is not the trustee of the IRA that purchased the metals or coins, an argument can be made that the metals or coins would not satisfy the physical possession definition outlined in IRC section 408 since the bank could not serve as the IRA trustee.

In addition, the language in IRC Section 408(m)(3)(B) uses the term “a” trustee” and not the “the” trustee” offering some support for the position that the metals/bullion can be held at any trustee, as defined under IRC 408(a) and not just the trustee of the IRA holding the metals. This would make sense since a depository is considered a trustee pursuant to IRC 408(a), but may not be the actual trustee of the IRA that owns the coins or bullion/precious metals. Nevertheless, the safest approaching to holding IRS approved coins or bullion/precious metals is at a trustee, as defined in IRC Section 408, such as an approved depository. One thing that is clear, is the one should not ever hold IRS approved coins or precious metals/bullion personally.

In general, the rules surrounding the ownership and possession of IRS precious metals or coins are complicated. Therefore, it is crucial that one works with a firm, such as IRA Financial Group, that has the expertise and resources to help one navigate the IRS rules without being preoccupied with selling you coins or precious metals.

Foreign Currencies

The IRS does not prevent the use of Roth IRA funds to purchase foreign currencies, including Iraqi Dinars. Many believe that foreign currency investments offer liquidity advantages to the stock market as well as significant investment opportunities.

By using a Self-Directed Roth IRA to purchase foreign currencies, such as the Iraqi Dinar, all foreign currency gains generated would be tax-free!

Stocks, Bonds, Mutual Funds, CDs

In addition to non-traditional investments such as real estate, a Self-Directed Roth IRA may purchase stock, bonds, mutual funds, and CDs. The advantage of using a Self-Directed Roth IRA with “checkbook control” is that you are not limited to just making these types of investments. By using a Self-Directed Roth IRA, all income and gains will flow-through to your Roth IRA tax-free!

These are just a sampling of Self-Directed Roth IRA investments. Your investment opportunities are virtually endless!

The Self-Directed Roth IRA Solution

A Self-Directed Roth IRA gives you the best of both worlds. You receive the benefits of a Roth IRA, such as tax-free profits, tax deductions, asset protection and estate planning. But you also benefit from investing in assets you know and understand.

Aside from life insurance, collectibles and certain “prohibited transaction” investments, a Self-Directed IRA can invest in most commonly made investments.

The self-directed Roth IRA, similar to a Self-Directed IRA, allows the IRA holder to:

  • Use the same Self-Directed Roth IRA to purchase domestic and foreign currencies, real estate, private mortgages, gold and stocks, bonds and mutual funds inside the same plan and generate profits tax-free.
  • Purchase real estate foreclosures and tax liens on the spot or make personal loans by simply writing a check.
  • Buy your retirement home now at today’s prices, rent it out, and then move in tax-free at the age of 59 1/2.
  • Purchase a vacation home now at today’s prices anywhere in the world, rent it out, and then use it tax-free at the age of 59 1/2.
  • Invest in an office building now at today’s prices, rent it out, and then move your business in tax-free at the age of 59 1/2.

Read More: What is Checkbook Control Self-Directed IRA?

Self-Directed IRAs Growing in Popularity

A Self-Directed IRA is the most popular vehicle to buy alternative assets. Self-Directed IRAs have grown significantly in the last several years. This increase is largely due to a number of factors, including:

  • The shaky performance of the stock market
  • The growth of the real estate market
  • The lack of liquidity in the small business loan market
  • The increase in media coverage by the Wall Street Journal, CNBC, The New York Times, Forbes, and some of the other major financial media companies
  • The growing popularity of cryptocurrencies.

However, it’s not unusual for investors not to hear about Self-Directed IRAs from a tax or financial advisor. Traditional financial institutions make money when their clients make traditional investments.

The benefits of self-directing are unmistakable. For example, many financial experts believe that self-directing an IRA creates great diversification to a retirement portfolio. Additionally, you receive some protection from inflation by investing outside of the Stock Market.

Alternative Assets Growing in Popularity

Alternative, or non-traditional assets can be lumped into one of four categories: real assets, hedge funds, private equity and structured products. Obviously, some perform better than others at different times.

The growth of “alts” has been noticeable over the last decade or so and will continue to grow over the next several years. According to a survey conducted by Preqin survey back in 2018, the majority of investors are looking to expand their exposure to alternative investments.

The COIVD-19 pandemic, while terrible on every scale, has led to an even more interest in alts to better diversify one’s portfolio and hedge against the inflation which arose.

Alternative investments totaled $13 trillion in assets in 2021 and that number is expected to reach $23 trillion by 2026. A Roth IRA has the ability to invest in just about anything you can think of, which will allow for the proper diversification you need in your retirement account – all with the benefit of tax-free distributions during retirement.

Read More: What are Alternative Assets?

New Rules for Converting Traditional to Roth IRA

For tax years starting in 2011, the $100,000 modified adjusted gross income limit for conversions to Roth IRA is eliminated. Married taxpayers filing a separate return can now convert amounts to a Roth IRA.

Individual retirement accounts, or IRAs, exist in many forms. If you have an income from working for yourself or someone else, you may set up and contribute to an IRA. The major advantage of using a traditional IRA is that contributions are tax-deductible. However, a Roth IRA offers tax-free income and gains. Furthermore, you can use IRA funds for any purpose.

This includes:

Get in Touch

Do you still have questions about the Self-Directed Roth IRA that we didn’t cover in this article? Contact IRA Financial Group at 800-472-0646. Or fill out the form and speak with an IRA specialist.

Did you know?

With a Self-Directed Roth IRA, as long as you qualify to make contributions, all of your distributions are tax-free. And what’s more, unlike a traditional IRA, you can continue to contribute to a Roth IRA as long as you earn income. Contact us to find out more.


Latest Content

Send Us a Message!