The Pros and Cons of Making Illiquid Investments with a Self-Directed IRA

Estimated reading time: 3 minutes(Last Updated On: December 6, 2018)

A self-directed IRA with a custodian such a Quest Trust Company can provide you with the opportunity to invest in a wide range of investment options, including a number of highly illiquid investment types. Before deciding on a particular investment that could take some time and effort to dispose of when you’re ready, consider the following pros and cons:

Pro: Assuming you’ve chosen a suitable investment (in terms of your portfolio needs, as well as your investing personality), then having that investment be relatively illiquid can help you avoid the tendency that some investors have to trade too frequently.

Con: While it’s generally not advisable to use your self-directed IRA as an emergency fund, you may be faced with a situation where you really do need to take a distribution from your account prior to reaching full retirement age. Having illiquid investments makes it more difficult to do so.

Pro: As you acquire more investment experience, you may begin to feel that the traditional and more common investment types — such as stocks, bonds, and mutual funds — simply don’t give you the types of investment exposure you’re seeking. You may want a greater risk/return outlook, or perhaps a greater level of investment income, than those common investments can provide. With a self-directed IRA you can choose illiquid investments that provide you with the ideal risk profile.

Con: Depending on how much of your account or overall retirement portfolio is devoted to the specific illiquid investment, you may find it difficult to maintain a proper level of diversification, particularly in the face of rapidly changing market conditions. Be sure you’re aware of all known investment risks before purchasing a large illiquid investment with your self-directed IRA.

Pro: When you hold illiquid investments in your self-directed IRA, you may spend less time analyzing potential new investments for your account, staying on top of market conditions, and doing all the various types of research that you’d normally do before making a new investment. This isn’t to say that you don’t have to pay attention to such an investment once it’s in your account, or that you won’t do all proper research and due diligence before making the investment. But if you feel as though you’re spending too much time managing your retirement portfolio, the right type of illiquid investment may be able to ease some of your burden.

Finally, it’s important to be aware that having an illiquid investment within your self-directed IRA might present challenges for you when it’s time to take distributions during retirement. In order to avoid this situation (and then either not having the necessary funds available, or having to sell the illiquid investment under unfavorable circumstances), you should always take your retirement timeframe into account — as well as any foreseeable variations to such timeframe — before making any large and illiquid investment with your self-directed IRA.

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