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Starting at the Basics with Self-Directed Individual Retirement Accounts

Self-directed individual retirement account specialist
Self-directed individual retirement account

A self-directed individual retirement account is an account held with a custodian that allows investments in a range of alternative assets inside of that account. Depending upon what your custodian allows, these could include IRAs (both Traditional and Roth accounts), SEP-IRAs and Solo 401Ks.

Why a self-directed individual retirement account?

A self-directed individual retirement account, or SDIRA, can be a useful tool in an investors’s toolkit. Most current traditional retirement savers likely will have investment portfolios that are largely limited to traditional asset classes such as stocks, bonds and cash.

Using an SDIRA can offer you a place not only to diversify your overall portfolio with any number of alternative investments, it offers you a chance to diversify using your retirement accounts — which can add another dimension to this diversification.

Self-directed individual retirement accounts are subject to the same contribution limits and restrictions as the same type of account would be otherwise.

What types of investments are eligible?

Alternatives that you can utilize inside of an SDIRA, include, but are not limited to:

  • Real estate investments
  • Private equity
  • Private debt
  • Gold and precious metals (subject to certain restrictions)
  • Loans including mortgages
  • Crowdfunding of various types
  • Hedge funds
  • Structured settlements
  • Bitcoin, cryptocurrencies and digital assets
  • Futures and commodities
  • Livestock
  • Structured settlements

Many alternatives have a relatively low correlation to stocks, which can help your retirement account hedge against volatile market cycles like the one we are currently experiencing.

What restrictions must you be aware of?

There are some investments that are not allowed in self-directed individual retirement accounts, including:

  • Life insurance (not allowed in an IRA or SEP-IRA)
  • Collectibles like wine, art, antiques and some similar items
  • S-Corp stock
  • Precious metals, except those specifically allowed

Additionally there are rules against self-dealing and prohibited transactions that you need to be aware of to ensure that you don’t violate these rules and trigger an unwanted tax hit.

Generally, self-dealing means that you must keep investments in your self-directed retirement accounts separate. You cannot engage in transactions or business arrangements that benefit the account holder or their family directly by using these assets.

Examples of prohibited retirement account transactions would include:

  • Purchasing stock in a company where a family member owns over 50% of the stock, for example your son or daughter.
  • The SDIRA holder uses funds in their IRA to make a loan to a disqualified person such as a child, spouse or other close family member.
  • Purchasing rental property and then taking a family vacation and using the property rent-free.

Taxes and Alternatives

Alternative investments may have tax implications. Holding these types of assets in a retirement account can negate many of these tax issues.

For example, the tax ramifications for bitcoin and other cryptocurrencies are complex and confusing. Investing in these instruments inside of an SDIRA can eliminate this situation in the current year as these investments grow tax-deferred or tax-free in the case of a Roth account type.

Rental properties generate regular income and can generate taxable gains if eventually sold at a profit. As long as these proceeds remain inside of the retirement account, there are no immediate tax ramifications, the money will be taxed when withdrawn from the account in retirement or come out tax-free in the case of a Roth account if all applicable rules are followed.

Many other types of alternative investments have tax implications, some of which can be a bit quirky. Holding these assets in a retirement account can make sense for clients from a tax perspective.