Self-directed IRAs provide more freedom, flexibility, and investment options; however, they also carry greater risks and require careful compliance with IRS rules.
One of the key rules governing an IRA investment is that its owner may not directly profit from them, which includes living in property owned by the IRA or loaning money out to disqualified people.
Self-directed IRAs (SDIRAs) allow investors to access assets not usually offered or managed by traditional retirement account companies, such as cryptocurrency, real estate and private equity investments. Because SDIRAs don’t fall under the same oversight as those run by an IRA company, bank or brokerage firm it’s crucial that due diligence be performed when considering investing with one.
An SDIRA may hold cryptocurrencies such as Bitcoin, but these investments don’t provide the same tax benefits. Furthermore, cryptocurrency investments may experience greater price fluctuations and may ultimately decrease in value, decreasing your overall return.
Many alternative investments you can invest in through an SDIRA require upfront fees to start, such as setup, maintenance and insurance costs. You should also factor in ongoing expenses related to storage or maintenance charges for storage purposes as well as transactional fees upon each purchase or sale of an asset.
SDIRAs may not provide as much financial information as publicly traded stocks and bonds; some assets also lack liquidity due to extended holding periods, restrictions on redemptions or limited markets. Therefore, you should always verify any information given by promoters or in your account statements before investing.
Finally, when setting up an IRA you must be mindful not to violate any IRS rules that pertain to an IRA. This includes adhering to the “self-dealing” rule which prohibits using or benefiting from assets owned by your IRA in ways other than legal business transactions; for instance living in or paying expenses from property that your IRA owns would fall under this category as would entering into deals with disqualified parties like family or business partners who don’t fit this criteria.
Self-directed IRA owners who employ SDIRAs gain greater investment control in assets such as real estate, cryptocurrency and private companies that cannot be purchased with traditional financial investments. By having more control of an IRA account, investors can diversify their retirement portfolio more easily while taking advantage of opportunities outside the stock market without experiencing its volatility.
However, these specialized retirement accounts require investors to be proactive in understanding the rules that pertain to them; otherwise they risk running into trouble with the IRS.
Common issues related to SDIRAs involve prohibited transactions, which violate the Internal Revenue Code’s rules pertaining to IRAs. You cannot use property owned by your IRA for personal living or vacationing purposes (thus eliminating any consideration of purchasing vacation home with one), nor can work be performed on it (e.g. fixing a toilet).
Other prohibited activities for an IRA account include purchasing rental real estate or selling it, loaning money from your IRA to family members or transferring assets between related parties. To prevent making these mistakes, seek advice from an investment adviser or partner with an independent third party to vet any investments for your SDIRA.
Though the benefits of investing in alternative assets may make a SDIRA attractive, due to additional responsibilities and risks it is vitally important that any potential investments be researched thoroughly prior to purchase. Since such investments tend to be less transparent than public stocks and bonds it may be challenging for an independent third party to verify them independently. Likewise, be sure to review any contracts and agreements to make sure they comply with IRA rules before entering them into an account.
Criminals prey upon IRA holders who do not actively learn the rules that pertain to their investments, according to Ryan Shuchman of Cornerstone Financial. Red flags for possible fraud include new investment companies without track records or claims of unreasonably high returns.