Beware of Prohibited Transactions with Self Directed IRAs

Estimated reading time: 3 minutes(Last Updated On: August 13, 2019)

Self-directed IRAs can be a great retirement option for those looking for more options and flexibility with their funds. However, there are still several rules and regulations to follow when it comes to these types of IRAs, and breaking them can be costly. You may have to pay taxes or fees on your earnings, or your account could be entirely disqualified if the terms are breached. Since it’s you and you alone who’s responsible for protecting your retirement funds, you should learn about the various restrictions below before your hard-earned investment takes a dastardly hit.

  1. Property usage by a disqualified person. If you purchase a property with your self-directed IRA money, you can’t benefit from the property in any way, and neither can your family members. This means you can’t live in the property, use it as a vacation home, or rent it to family members. This applies to all types of property, from single family homes to office spaces.
  1. Receiving income from plan property. You can’t use your retirement investment as a present-day income strategy. For instance, you can’t purchase an apartment building with your retirement money and manage the building at the same time. You can’t collect personal checks for rent or receive any personal income from the property in any way besides appreciation through your retirement account.
  1. Benefitting from personal equity. The IRS prohibits plan owners from contributing personal funds to the property or performing manual labor on the building itself in order to increase their investment numbers. Manual labor, even if free, counts as sweat equity and is strictly forbidden. If you want to improve the property, you will have to use your plan funds in order to do so.
  1. Lending of money to the disqualified person. Another prohibited transaction is lending or gifting money to a family member (or yourself) from your plan. Again, this is directly benefitting you and your family, so it’s not allowed.
  1. Disqualified fiduciary. Since the people who help manage your plan receive an administrative fee for their services, usually a percentage of the earnings over time, the plan fiduciary cannot be a relative of yours or have any stock in the investment itself. For instance, the fiduciary can neither own 50% or more of the company you’re investing in, nor own 10% or more in shares of the company. Basically, if they directly benefit from your investment, they can’t be in charge of it.
  1. Using funds for loan security. Lastly, you won’t be able to use your investment funds as collateral for a loan if a disqualified person approves or confirms the consideration. If you plan on using your retirement funds in this way, consult a third-party to avoid penalties.

In short, steer clear of disqualified persons and don’t try double dipping on your earnings. As long as you think of your investment as only there to benefit you at retirement, you shouldn’t have many issues. For more information and advice on self-directed IRAs, talk to your personal financial advisor.

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