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Traditional IRA vs Self-Directed IRA

traditional ira vs self-directed ira

There is a difference between a traditional IRA and a Self-Directed IRA, and it may be greater than you think.

An Individual Retirement Account (IRA) is a tax-deferred retirement account designed for individuals to set aside money for savings each year. Earnings will be tax-deferred until a withdrawal at age 59 1/2 or later (sometimes earlier, but a 10% penalty applies).

Key Points
  • A regular IRA is one that is opened at a bank or similar financial institution
  • Traditional IRAs can be self-directed, with the right custodian
  • A Self-Directed IRA offers more benefits and investment freedoms than a regular plan

Traditional IRA vs Self-Directed IRA

A regular IRA, oftentimes referred to as a traditional IRA, is generally overseen by a broker or investment advisor. The IRA funds are restricted to traditional investments, such as stocks, bonds and mutual funds. While Self-Directed IRAs also allow you to purchase stocks, you can also invest in hard assets, such as real estate, cryptocurrencies, gold and other precious metals, hard-money loans, and more!

Of course, “traditional” simply means it was the original IRA (as opposed to the Roth, which came along after). Basically, it refers to a pretax IRA. All contributions are made with pretax funds and no taxes are due until you withdraw from the plan. This is known as tax deferral. Like a traditional IRA, a Self-Directed IRA can also be a Roth (after-tax contributions). While both pre-tax and after-tax IRA’s have benefits, these may vary based on your individual situation. Regardless of the account type, a Self-Directed IRA allows you more control over your investments. For example, a Self-Directed IRA with Checkbook Control allows you total control over your retirement. To make an investment, you simply need to write a check. Many real estate investors use a checkbook control IRA to pay for property-related expenses or further diversify their retirement portfolio. While real estate investors is just an example, Checkbook IRA’s are quite common and allow investors the ability to make investments without needing the consent of an IRA custodian.

Although you can invest in countless assets with a Self-Directed IRA, there are some rules that need to be followed. For example, prohibited transaction rules dictate what investments are allowed in an IRA. While these rules are established by the IRS, traditional IRA’s frequently do not use them. This is primarily due to the fact that traditional IRA’s limit the types of investments you can make. Hence, being limited to stocks and bonds minimizes the need to follow specific rules.

Self-Directed IRA with Checkbook Control

In the case of a “truly” Self-Directed IRA LLC with “checkbook control”, a limited liability company (“LLC”) is established that is owned by the IRA account and managed by the account holder. The IRA Holder’s IRA funds are then transferred by the Custodian to the LLC’s bank account providing the IRA holder with a “truly” Self Directed IRA LLC.

When you establish a true Self-Directed IRA LLC, you receive complete control over your IRA funds. You no longer need each investment to be approved by the custodian of your account, as you will work with a passive custodian. A passive custodian does not approve investments or offer investment advice.

When you want to make an investment, simply write a check or wire the funds from your Self-Directed IRA LLC bank account. Ultimately, this eliminates custodian delays, which allows you to act quickly when an investment opportunity presents itself.

Establishing a Self-Directed IRA

If you are interested in establishing a Self-Directed IRA, it’s important to research the organization you wish to establish your plan. IRA Financial allows you to open an account directly through our app. We also offer checkbook control. While many traditional IRA custodians advertise that they offer Self-Directed IRAs with checkbook control, this is not the case.

A Self-Directed IRA with checkbook control allows you to invest in a world of investment opportunities, such as real estate, tax liens, precious metals, and cryptocurrencies without custodian consent. However, when you establish a Self-Directed IRA with a traditional custodian, you are unable to make any of the aforementioned investments. You can only use your retirement funds to invest in equities, mutual funds, bonds, and other investments offered by the custodian.

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