5 Tips for Finding an Ideal Self-Directed IRA Account Custodian

Money.

You work hard for it and you are careful about who you trust with it. You have decided to open a self-directed IRA account.

Who is the best person to handle your investments? What questions should you be asking? How can you find them?

Keep reading for five tips on how to choose the right IRA custodian to handle your investment account: 

1. Customer Service

Finding an IRA custodian that provides excellent customer service is vital for your business relationship as they handle your investments for years to come. Their availability in communication is an area to focus on when evaluating their customer service. If you have a question or want to make a change, you never want to question whether they will be available to provide assistance. 

An IRA custodian that provides a high level of customer service will walk you through the information and make sure that you understand everything about each investment.

2. Look at Cost and Fees

When searching for an IRA custodian, it is important to consider the cost and fees that are associated with the service. On our website, we have a general fee schedule that breaks down the fees. 

You are already entrusting the custodian with your investments, so you should be aware of what they are gaining in return. 

3. Experience

Knowledge is a powerful thing, especially when money is involved. You want to look for an IRA custodian that has experience working in the investment areas that you are interested in. For example, if you are looking to invest in real estate, you are going to want a custodian that is familiar with the terminology of real estate. You may be new to this but you want to make sure that they are guiding you with previous experience to make the best financial choices with your investments. 

Knowing which areas you would like to invest in prior to starting your search will help narrow down which person would be best to work with.

4. Frequency of Transactions

Depending on your investment strategy, you could be holding on to assets for a long period of time or potentially trade several within a week. Working with an IRA custodian that can properly handle multiple transactions and has the systems in place complete those transactions is important. 

Simply put, you want to be sure that the IRA custodian that you pick can handle the workload and is flexible to changes within your investment strategy. 

5. Ask Questions to an IRA Custodian

Think of it as an interview. Once you have found someone that you think you would like to work with, ask them questions prior to committing to a partnership. 

Asking about what investment areas they specialize in and how accessible they are for future communication will help you see if they are a match for you. 

Call Us Today!

Please contact a Quest IRA specialist today and we can help answer any questions you may have. We look forward to working with you and serving as your IRA custodian for years to come!

What Common Mistakes Can I Avoid When Setting up a Self-Directed IRA?

Do you want to take more control over your retirement investment accounts? Have you been considering a self-directed IRA but worried about the rules?

You want to diversify your portfolio – outside of the traditional investment markets such as stocks and bonds. That’s where a self-directed IRA comes into play. It allows you to diversify while also keeping control of your investments yourself.

However, you need to make sure to avoid some common mistakes and pitfalls that plague many investors.

Read on to make sure that you don’t fall into these common pitfall traps.

A self-directed IRA allows you to invest in alternative financial investments. These can include real estate, promissory notes, oil, and gas, tax lien certificates and more.

However, instead of being administered by a bank or brokerage you instead manage the fund yourself.

Take Control Yourself

You know you need to save your money for your retirement. But it can be daunting, to say the least when you are responsible for it yourself. 

When it comes to your retirement, the only person most invested in your success is yourself. Therefore, it stands to reason that you should be the one to make the final decisions regarding your investments. However, without the correct information, you can make some unfortunate mistakes in your choices

Take control of your financial future and get started with a self-directed IRA today. Contact a Quest IRA specialist and find out how we can help you take control of your retirement.

Avoid the Pitfalls of a Self-directed IRA

When you take control of your financial future with a self-directed IRA, you need to ensure to avoid these common pitfalls.

  1. Prohibited transactions – these can be tricky to navigate so it’s important to know the rules.
  2. Due diligence – As mentioned, the rules can be tricky, and it’s imperative that with a self-directed IRA you make the decisions yourself. Always ensure you do proper due diligence before getting into any investment.
  3. Lack of liquidity – with a self-directed IRA minimum distributions are required at 72, however, the alternative investments allowed can be hard to sell. This lack of liquidity can be a common pitfall if you find yourself in an emergency and can’t get your money out of your self-directed IRA.
  4. Lack of transparency – when it comes to your exit strategy for selling your alternative investments all parties involved must be in agreement. You also must be fully transparent as to the valuation of your investments. Without this full transparency, you can fall into another common pitfall of self-directed IRAs.
  5. Lack of diversity – as most successful investors will tell you: diversity is key to successful investment accounts. However, with self-directed IRA funds, sometimes investors forget to ensure that it is fully diversified.

With a self-directed IRA, you need a trustee or custodian that specializes in these non-traditional investments. However, remember one of the common mistakes with self-directed IRA funds is the self-directed IRA owner not performing proper due diligence on investments.

So this trustee is simply a custodian of your account, not your adviser. You need to work with a company that understands the IRA rules and you can trust.

Stay Educated and Stay out of Trouble

We set up self-directed IRAs to help you prepare for your retirement. The most prepared people for retirement are those that are best educated.Keep continuing your education so you can fully prepare for the best retirement possible. For answers to your questions, contact us today. We can help you open a Quest account to get you started.

How to Set Up a Self Directed IRA: A 5 Step Guide

Investing for retirement is something worth beginning as early as possible.

Current annual costs for someone over the age of 65 are approximately $50,000. So you’ll need a significant amount in your retirement account in order to live comfortably during this time.

One of the best ways to begin saving is a self-directed IRA, but not everyone knows how to go about it.

Not sure where to start? Don’t worry, we’ve got you covered.

Let’s take a look at everything you need to know about how to set up a self-directed IRA.

1. Select a Provider

In order to get started, you’ll need to work with a financial institution or firm that facilitates the opening of IRA accounts. When searching, though, there are some things you’ll want to keep in mind.

A provider with plenty of experience in this area that also offers a large range of investment opportunities is one you should prioritize. Additionally, your provider should also have experts willing to help you make the right investment decisions for your situation.

2. Choose What Type of IRA You Want to Open

Although you’ll be opening a self-directed IRA, you’ll still need to decide between a Roth IRA or traditional IRA.

Both allow you to invest in your retirement, but they have fairly different attributes. The best one for you will depend on your current finances and how much you plan to have invested by retirement.

You can learn more about the differences here.

3. Understand Your Investment Options

The main benefit that a self-directed IRA provides is the increased flexibility you’ll have when creating your investment portfolio. So, you’ll be able to fine-tune your investments to meet your long-term goals while remaining within your tolerated level of risk.

Working with a reputable provider will help you optimize your portfolio even further.

4. Apply For an Account

After you’ve decided who to work with and what type of IRA account you want to open, you’ll be required to complete an application.

You’ll need the following on hand in order for everything to go as quickly as possible:

  • Government ID
  • Social security number
  • Account information used for funding
  • Fee payment method
  • Info regarding your beneficiary

Depending on your provider, you may need to provide additional information.

5. Start Saving

After everything’s up and running, you can decide how you’d like to fund your account.

These come in three categories:

  1. Transfers: Funding your newly created IRA account from another IRA account
  2. Contributions: Sending money to your IRA account from a non-retirement account, such as from a checking or savings account
  3. Rollover: Transferring money to your IRA account from a different type of investment account, such as a 401K

Once you have money in your account, you can change how you’d like to contribute in the future if you need to. 

Understanding How to Set Up a Self-Directed IRA Can Seem Difficult

But it doesn’t have to be.

With the above information about how to set up a self-directed IRA in mind, you’ll be well on your way to financing your future as early as possible.

Want to learn more about how we can help? Feel free to get in touch with the team at Quest today to see what we can do.

Know the Difference: IRA Transfer vs. Rollover

In order to live comfortably during retirement, you’ll need to start saving as soon as you can. Opening an IRA account is widely known as one of the most reliable ways to invest in your future.

There are two major ways to fund your IRA: transfers and rollovers.

Not everyone understands the difference between the two, though. Not sure where to start? Don’t worry, we’ve got you covered.

Let’s take a look at everything you need to know about IRA transfer vs rollover.

An IRA Transfer

When you move money from one IRA account to another, it’s known as a transfer. The same concept applies as when you move money between two separate checking accounts at different banks.

When you move funds from an IRA at one firm to an IRA account managed by another firm, the transfer isn’t reported to the IRS and no taxes are incurred. This is due to the fact that the money in the original IRA account never actually reached the account owner.

If the owner were to instead withdraw the funds and then reinvest them into another account, they would incur taxes upon withdrawal. There may even be tax penalties depending on why the money was taken out of the account.

An IRA Rollover

A rollover occurs when money is either moved from an IRA account to a retirement plan or from a retirement plan to an IRA account. When the money never reaches the account holder, it’s known as a direct rollover.

This type of rollover differs from a conventional transfer because it involves two different types of plans.

Although direct rollovers are reported to the IRS, they generally aren’t taxable since the money was never made payable to the account holder.

During an indirect rollover, the money is distributed to the account holder. But, it isn’t taxed if the money is reinvested in an IRA account within 60 days. This will allow the account funds to remain tax-deferred.

How Should I Prepare For One?

Above all else, it’s important to understand that a rollover will likely take a couple of weeks to complete. This is crucial for those handling indirect rollovers to keep in mind, as penalties occur after 60 days from when the funds are distributed to the account holder.

Additionally, most institutions will require you to fill out paperwork in order to begin the process. Some providers may have specific requirements regarding rollovers that may become a factor when reallocating your funds.

Knowing The Difference Between IRA Transfer Vs Rollover Can Seem Difficult

But it doesn’t have to be.

With the above information about an IRA transfer vs rollover in mind, you’ll be well on your way toward putting money away toward a peaceful retirement.

Want to learn more about how we can help? Feel free to get in touch with us today to see what we can do.

What is a Self-Directed IRA?

Whether it’s a Traditional IRA or a Roth IRA, a Self-Directed IRA (SDIRA), gives you all the tax advantages of an IRA with the freedom and flexibility of a wider array of investment instruments. The opportunity to take control of your financial future with greater asset diversification is one reason to invest in a self-directed IRA.

  • Regular IRAs allow investments in stocks, bonds, mutual funds, ETFs, and CDs. 
  • With a self-directed IRA, your investment options increase to include real estate, tax lien certificates, private market securities, promissory notes, and other investment opportunities. 
  • Building wealth with the tax advantages of an IRA while diversifying your retirement investment fund allows you to seek higher returns than a regular IRA. 
  • Higher yields and less volatility are another advantage of an SDIRA.

There are restrictions on what is permissible within IRS guidelines for an SDIRA. 

  • For example, you cannot borrow money from your SDIRA, sell the property to it, or enter into deals with relatives for it. 
  • You should also know that your IRA custodian cannot provide investment advice. 
  • Your IRA custodian can and should advise you of all prohibited transactions for your SDIRA.

The annual contribution limits are the same as a regular IRA: for those below the age of 50, $6000, and those older than 50, $7000. With the current and future problems with pensions, health care, Social Security, and other government programs, it is more important than ever to have a solid foundation for your financial future.

Quest Trust Company IRA Specialists can answer your questions about an SDIRA. Consider the benefits of an SDIRA with Quest Trust Company as your custodian: 

  • While most companies have only one option for your SDIRA, Quest Trust Company offers seven. 
  • Quest, there is no minimum cash balance. 
  • Transaction processing can exceed over two weeks with some companies; Quest processes transactions within 24-48 hours.

Quest offers the following for FREE (Other companies charge a fee for all of the following items):

  1. Expedited Services
  2. Processing Incoming Wires
  3. Processing Incoming Checks
  4. Roth Conversions
  5. Re-Characterizations
  6. Change Account Type Fee
  7. Certified Mail Fee
  8. Paper Statement Fee
  9. Distribution Processing
  10. Required Minimum Cash Balance (No minimum cash balance)

Contact a Quest IRA Specialist today! And discover how a self-directed IRA will fit into your retirement investment strategy. At Quest Trust Company, we help you take control of your retirement. 

How to Maximize the Growth of Your Investment IRA

When starting to plan for retirement, it’s important to start looking into tools that will help make the financial transition into retirement go as smooth as possible. Most people who are looking into ways that they can simplify the retirement process usually turn to an Individual Retirement Account. These are accounts that can have annual contributions, which can be tax deductible. Investments are only taxed when they are withdrawn from the account, but they are taxed in the same way that a regular income is taxed. There are certainly ways that people can get more out of an IRA account, which we will explain below.

The Earlier, The Better

IRAs grow when money is compounded. Investments can usually create more returns by reinvesting. If you give your money more of a chance to go through the cycle of compounding, the better chances of success for your IRA will be. This will allow your money to go through the compounding cycle without the impact of taxes taking over. Read more about this topic in our post How to Save for Retirement in Your 20s, 40s, and 60s.

Don’t Wait Until Tax Day to Contribute

\Waiting until tax day is not a good idea. A lot of people who have IRAs only make contributions to their accounts when their taxes are done. Doing this denies the chance for your IRA to grow as much as possible over the course of the year. A contribution at the beginning of the year gives the IRA a longer time to compound. Instead of making one big contribution, experts recommend putting a small portion of your money into your account throughout the year because it will benefit you most in the future

Specialize by Using your IRA

It’s crucial to set investment goals. Having investment goals will help determine what goes into your account. Experts recommend funds that are trade exchanged because they have low expenses and the other fees aren’t as much as other accounts have proven to be if you’re looking into basic retirement plans. More advanced retirement plans have distribution across many different accounts based on the taxation, also known as an asset location. Bonds that earn an income should be invested into IRAs and other financial gains and assets should be put into accounts that can be taxed.

Not every strategy for stocks is something that can be considered beneficial. It doesn’t just depend on how much you get taxed from each account, but you also have to consider what your personal situation is at the time of investment and how much you are anticipating getting back from your investment. Assets that are considered inefficient are in favor of getting put into an IRA, but other funds, like index funds, should be put into an account that can be taxable. Lower-return funds don’t have a specific end location; they can go anywhere.

IRAs can also be used for way more than what you would expect. People often find themselves investing in many different specialized funds, such as foreign equities, real estate, or investments in stocks that are considered to be small-cap stocks. Speak to your financial advisor about the best course of action for you.

Possible Advantages Of Having More Than One Self-Directed IRA

You’ll often hear the financial advice that you can save time and money by rolling over your various IRAs and 401(k)s from previous employers into a single self-directed IRA. Doing so can help you better manage your retirement nest egg, potentially save on expenses, and provide you with the opportunity to invest in high-priced assets.

And there’s certainly a great deal of truth to that advice. It can often seem difficult to stay completely on top of a single retirement account, let alone multiple accounts.

But that doesn’t mean that there aren’t circumstances in which you can gain an advantage for yourself by having multiple self-directed IRAs. Let’s take a look at some of those potential advantages.

Better Management of Individual Assets

Because having a self-directed IRA with a custodian such as Quest Trust Company permits you to invest in unique individual assets such as real estate and private equity and debt instruments, there may be instances where you want to hold such assets in a separate account.

For example, if you own a multi-family apartment complex in a self-directed IRA, it might be easier to monitor or evaluate investment performance of that asset if there are no other holdings in the account. After all, consider how the income and expenses for this type of investment, as well as your management obligations, is likely to be significantly more complicated than holding a simple stock investment.

One Roth Self-Directed IRA and One Traditional Self-Directed IRA

Individuals who have variable levels of income from year to year, including those who frequently change jobs, may find themselves able to make deductible contributions to a traditional self-directed IRA in some years, while being ineligible to make such deductible contributions in other years.

These non-deductible contributions could certainly be made to the individual’s traditional self-directed IRA, but a better approach might be to set up a separate Roth self-directed IRA in order to receive those contributions. Because a Roth self-directed IRA has unique advantages over traditional accounts, you may wish to know of these advantages yourself while still having the potential to make deductible contributions to a traditional account.

Further Advantages of a Roth Self-Directed IRA

Having a separate Roth self-directed IRA as well as a traditional account can help you better achieve your various long-term financial goals better than simply having a single IRA. For example, a Roth self-directed IRA is not subject to the IRS rules on required minimum distributions, so if you have two accounts – one Roth account and one traditional cash account – you can use the traditional account to fund your living expenses once you reach retirement, while continuing to let your Roth account grow on a tax-free basis for as long as you choose.

Furthermore, Roth accounts provide a greater level of flexibility when it comes to estate planning, and some individuals use their Roth accounts as a quick and easy way to ensure their loved ones are taken care of after they pass.

Ultimately the decision of whether to have more than one self-directed IRA will depend on your particular financial situation. But many individuals have found that it can be quite valuable.

Do Annuities Have A Place In Your Self-Directed IRA?

Self-directed IRAs are perhaps the most flexible way to save for retirement while still having the opportunity to gain significant tax advantages. There are a wide range of investment options available (including real estate, precious metals, certain oil and gas development interests, private equity and debt instruments, and even private mortgages), all in an account that offers tax-deferred or tax-free growth, and may even offer the opportunity to take a current year deduction for your account contribution.

Because of concerns about income investment yields, some self-directed IRA account owners have begun thinking about purchasing annuities with their self-directed IRA. Let’s take a closer look at whether that type of investment might be right for your account.

What Are Annuities?
Let’s first take a few moments to discuss the structure and key elements of annuities. An annuity is essentially a contract between you and an insurance company, whereby you pay a lump sum of money to the insurance company and they promise to pay you a monthly benefit in return. It can be helpful (although a bit of an oversimplification) to think of purchasing an annuity as similar to purchasing a pension benefit.

Different Types of Annuities
At the outset, it’s important to understand that there are two basic types of annuities; immediate and deferred. Immediate annuities begin to provide you with a monthly benefit immediately after you purchase it, while a deferred annuity will invest your money for you until a point in the future where you begin receiving income payments (which typically occurs during retirement).

But the distinction between deferred and immediate annuities only generally describes the many variations of annuities that are out there. For example, the benefit term for an annuity can be the life of the person who purchases it, or their life plus the life of their spouse, or their life plus a guaranteed term (so that a beneficiary would continue to receive income if the annuity holder dies before the expiration of that guaranteed term).

Suitability to Purchase With a Self-Directed IRA
If you are concerned about being able to count upon a minimum level of income for you and your spouse during retirement, then an immediate annuity might be the perfect solution if you’re at or very close to retirement age. Certain annuities even provide an annual increase in your benefit to help you keep up with inflation. An immediate annuity might also be structured to help you meet your required minimum distribution obligations if you have a traditional self-directed IRA.

On the other hand, purchasing a deferred annuity when you’re relatively young might not be a good investment because you’re essentially locking investment opportunity down to a low investment return.
In short, the answer to the question “do annuities have a place in my self-directed IRA?” is “maybe.” Depending on your needs, the size of your retirement savings, as well as your current age, there may very well be an annuity product that’s a good fit.

Furthermore, the insurance industry is constantly trying to create new products to make sure that everyone’s needs are met, so if there’s not currently an annuity on the market that makes sense for you, there might be one within the next several years.

Self Directed IRA Myths – Groom Law Group

Written by Richard Matta of Groom Law Group

A search of the internet quickly reveals that there are hundreds, if not thousands, of websites promoting one of the hottest financial concepts – the so-called “self-directed individual retirement account.” These range from sites offering simple “hands off” custody and recordkeeping services, to traditional broker-dealers marketing trading accounts, to promoters of “how to” books, to what amount to little more than modern-day snake-oil sales pitches. Similarly, bookstore shelves are lined with guides to building IRA wealth through nontraditional investments.

Many of these products are quite legitimate, and the sponsors work hard to provide meaningful information to help accountholders distinguish between legally acceptable investment practices and activities that may result in unfavorable tax consequences or, worse, complete loss of the tax-advantaged IRA status. Sometimes it is simply impossible to cover a subject in a comprehensive manner, and the materials warn accountholders to hire knowledgeable counsel. Nonetheless, in the opinion of the author, most of these materials perpetuate certain myths – even among the lawyers – that range from merely incomplete to outright wrong.

Why? In part, because neither the Internal Revenue Service (“IRS”) – which has jurisdiction over IRAs themselves – nor the Department of Labor (“DOL”) – which has jurisdiction over prohibited transactions – has in the past devoted significant resources to IRA issues, nor have the two agencies devoted much effort to coordinating their views. Thus, while a great deal of learning has developed under the Employee Retirement Income Security Act of 1974, as amended (“ERISA”), in connection with qualified retirement plans, in many cases this information has not carried over to IRAs. Until the last few years, most IRAs were small, and were marketed as “retail” products by different channels (and sometimes different financial institutions entirely) from those that dealt with the “institutional” ERISA market.

What are some of these myths? Mainly, they are concepts that have arisen in connection with the establishment of a limited liability company (“LLC”) as a wholly-owned subsidiary of an IRA, for the purpose of making non-traditional investments – what are often called “alternative investments” on the institutional side – i.e., things other than traditional mutual funds, stocks and bonds such as venture capital, real estate, derivatives and the like. These myths include the following, all taken verbatim from various self-directed IRA websites:

There appears to be no question that funding the LLC after the IRA’s initial purchase of shares constitutes a prohibited transaction because the LLC becomes a disqualified entity after funding

Comment: As discussed below, we believe this is simply wrong.

“Once the LLC is funded, you no longer need the custodian to write the checks. The LLC can write its own checks, and since you’re the manager, you have control

Comment: Though this may be the right answer, the author has not seen a single IRS ruling that confirms this is correct in the case of an LLC owned 100% by an IRA. (Where the IRA owns less than 100%, the authorities are somewhat clearer.) The Swanson case, discussed below, emphatically does not support this conclusion. There are good legal reasons why this may be false.

If you and your brother had a company and you owned 49.5%, then your IRA could buy, sell or loan to it without penalty.”

Comment: Wrong – this is a highly risky proposition. Ironically, the DOL advisory opinion most frequently cited as support for the proposition that this is not prohibited actually says that a prohibited transaction is likely to result.

Can I make a loan to my brother, aunt, cousin or stepchild so that they can use the money as a down payment on a home? Yes. According to IRC 4975, siblings, aunts, uncles, cousin and “step relations” are not included in the definition of disqualified persons. Thus any dealings between your IRA and these would not be a prohibited transaction.” (A variation on this is that you can hire your brother to manage real estate owned by your IRA, and pay him a salary with IRA assets.)

Comment: Also wrong. This is related to the prior question about a company owned by the accountholder and his/her brother, and the answer is the same – it very well  could be a prohibited transaction. Getting it wrong means loss of the IRA’s tax exempt status.

Each of these myths is discussed in more detail below.

Several of these concepts derive from Swanson v. Commissioner, 106 T.C. 76 (1996), cited by at least one IRA custodian as a “landmark” decision around which “an entire industry has been built” but which, in the opinion of the author, was much ado about nothing. The IRS raised the wrong arguments and failed to raise the right ones, and the tax court appears to have arrived at the “right” answer only by accident, via a nearly incomprehensible analysis. As discussed below, one key “holding” of the court was not a holding at all, and is also inconsistent with later authorities. Swanson is a weak foundation on which to rest a multi-billion dollar industry.

Myth No. 1: An entity 50% or more owned by an IRA is a disqualified person

The issue here at first blush appears to be rather straightforward. According to the tax court in Swanson (or as best we can understand the court’s reasoning):

Step 1. The IRA accountholder in that case was a fiduciary with respect to his own IRA. As a fiduciary, he was a “disqualified person” with respect to the IRA.

Step 2. The accountholder was also a “beneficiary” of the IRA. As such, he was deemed “beneficially” to own the shares of a corporation that was owned 100% by his IRA.

Step 3. Under the attribution rules of Code section 4975, any corporation owned 50% or more by a disqualified person (directly or indirectly) is also a disqualified person.

Consequently, once the IRA acquired 50% or more of the corporation, any subsequent dealings between the IRA and the corporation would be a prohibited transaction. Straightforward, yes, but erroneous. The court’s analysis rests upon the following constructive ownership rule:

Stock owned, directly or indirectly, by or for a corporation, partnership, estate, or trust shall be considered as being owned proportionately by or for its shareholders, partners, or beneficiaries….

Swanson, 106 T.C. at 86, n. 15 (quoting Code section 267(c)(1)). Because the IRA was a trust, this means that the accountholder, as the trust’s sole beneficiary, was deemed constructively to own stock of any corporation held by his IRA. So far, so good. However, being a beneficiary alone did not make the accountholder a “disqualified person,” and neither would it make the corporation a disqualified person. Rather, the court found the accountholder was a disqualified person because he was a “fiduciary” with respect to his IRA. However – and this is an important but rather subtle point – a fiduciary acting only as such is not a disqualified person. A fiduciary is only a disqualified person when acting in his own interest, or in the interest of other persons, i.e. , “outside” the IRA.

This conclusion was spelled out rather plainly by the Department of Labor only one year after Swanson. And it is the DOL, not the IRS, that has primary jurisdiction to interpret these rules. Specifically, in 1997 DOL issued an advisory opinion to the Financial Institutions Retirement Fund regarding its holding of the stock of a wholly owned corporation named “Pentegra.” DOL Adv. Op. No. 97-23A (Sept. 26, 1997). The plan capitalized Pentegra with $400,000 in exchange for 100% of its stock. The plan’s trustees requested an advisory opinion that subsequent transactions between the plan and Pentegra would not be prohibited transactions. The concern was that because the trustees as plan fiduciaries held legal title to the Pentegra stock, 50% or more of Pentegra’s stock would be deemed “owned” by the trustees, causing Pentegra to become a party in interest and disqualified person with respect to the plan, under the exact same theory that was applied by the court in Swanson. DOL concluded that such ownership would not make Pentegra a party in interest (under ERISA) or disqualified person (under the Code):

Although, pursuant to ERISA section 3(14)(G), plan fiduciaries would hold all the value of Pentegra stock, they would hold such shares on behalf of the plan, not on behalf of themselves or a third party. As explained below, it is the opinion of the Department that, under the circumstances described, such transactions would not be prohibited because, under the terms of the “plan assets/plan investments” regulation (29 C.F.R. 2510.3-101), they would be treated as “intra-plan” transactions rather than transactions between a plan and a party in interest.

It is true that the Pentegra advisory opinion only addressed a 100% owned subsidiary (as did the Swanson case). However, nothing in the opinion suggested that it would not also apply where a plan owns 50% or more, but less than 100%, of the subsidiary entity (the 1980 DOL advisory opinion addressed a single fiduciary owning 100%, but on behalf of multiple plans). However, any remaining doubt was dispelled in a later opinion issued on behalf of Verizon Investment Management Corp. Adv. Op. No. 2003-15A (Nov. 17, 2003). In that case, Verizon set up an investment vehicle for various Verizon plans as well as plans of unaffiliated companies. The Verizon Master Trust, through its bank trustee (a fiduciary), owned more than 50% (but less than 100%) of the fund. Verizon sought confirmation that this ownership would not cause the fund to become a party in interest or disqualified person with respect to the Verizon plans. In confirming this conclusion, DOL noted that:

Consistent with section 3(14) of ERISA, a plan’s ownership of fifty percent or more of a partnership entity will not cause that partnership to become a party in interest with respect to that investing plan. In our view, the application of section 3(14)(G) should not change that result merely because a plan’s interests in a partnership are held by a fiduciary on behalf of the plan. Although [bank fiduciary] would hold more than fifty percent of the value of the [partnership] interests, it would hold such interests on behalf of the Verizon Plans, not on behalf of itself or a third party. As a result, it is the view of the Department that the [partnership] will not be a party in interest with respect to the Verizon Plans. Therefore, transactions between the Verizon Plans and the [partnership], including initial and subsequent contributions to the [partnership] by the Verizon Plans and distributions from the [partnership] to the Verizon Plans, would not be prohibited under section 406(a) of ERISA.

[Emphasis added.] Although the DOL cited only the relevant sections of ERISA, they noted in a footnote that this conclusion also extended to the parallel sections of Code section 4975, and thus it is directly applicable to LLCs or other entities owned by IRAs.

Myth No. 2: Putting your IRA assets into an LLC gives you “checkbook control.”

 Scores of websites tout the “Checkbook IRA LLC” or variations thereon as allowing the accountholder to take control of his or her IRA assets away from the custodian. Under this theory, the IRA accountholder directs the custodian to purchase “shares” (units) of the LLC, opens up a checking account in the name of the LLC, and thereafter simply signs the LLC’s checks without any participation of the custodian.

There are valid legal arguments why this might work if the IRA owns less than 100% of the shares of the LLC (which is a different and more complicated concept), but does it work where the IRA is the sole owner of the LLC? The answer is far from clear. IRS regulations state that an individual retirement account “must be a trust or custodial account” whose assets are “held by a bank” or by an approved non-bank custodian. Proponents of the LLC structure apparently argue that the “assets” of the IRA in this instance are simply the shares of the LLC (which are held by a bank), and that any checking account set up by the LLC belongs to the LLC, not the IRA. This is absolutely true under state law (and has important ramifications in terms of limited liability and asset protection.). But it does not follow that the IRS would agree for tax purposes. In fact, there are good reasons why it may not agree.

A similar issue arises under ERISA, and it is helpful to begin there. Under ERISA, assets of a retirement plan also must be held in trust. DOL has adopted “plan assets” regulations that determine under what circumstances you “look through” an entity (such as an LLC) to determine that its assets are deemed to be assets of a plan. These rules also apply to IRAs. In this case, the rules indicate that when a plan (including an IRA) owns 100% of the shares of an LLC, the LLC’s assets always are deemed to be assets of the plan (they may also sometimes be plan assets even if the plan owns less than 100%). Back to the trust rules – other ERISA regulations expressly state that in the case of a “plan assets” entity such as an LLC, assets held by the LLC (such as a checking account) are exempt from ERISA’s trust requirement.

The IRS has not adopted a similar exemption from the IRA trust/custody requirements. Nonetheless, most practitioners assume that the IRS would apply a similar analysis to IRA investments in plan assets vehicles, and there is certainly evidence that they have not challenged such investments in pooled plan assets funds (hedge funds, for instance).

However, there is a different reason to ask if the IRS would allow checkbook control in the case of a 100% owned LLC. The reason is simple – a single-member LLC that does not elect to be taxed as a corporation 5 is a “disregarded entity” for tax purposes. According to the IRS:

A disregarded entity is [one] that is treated as an entity not separate from its single owner. Its separate existence will be ignored for federal tax purposes unless it elects corporate tax treatment. In other words, for federal tax purposes – and we see no reason why this does not extend to the IRA custody rules – an IRA-owned LLC does not exist. Accordingly, in the eyes of the IRS, assets held in the name of the LLC are no different from any other assets of the IRA, and arguably remain subject to the IRA bank custody requirements.

What is the risk? In theory, the IRS could argue that “checkbook LLC” assets that are controlled by the IRA accountholder have been constructively distributed and are subject to immediate taxation.

Myth No. 3: So long as you own less than 50% of an LLC, you are not prohibited from transacting business between the LLC and your IRA 

In a 1988 advisory opinion, the DOL was asked whether a loan from an IRA to a corporation owned approximately 47% by the IRA accountholder would be a prohibited “lending of money or other extension of credit” under Code section 4975(c)(1)(B). Applying (correctly) the reasoning discussed above under Myth No. 1, the DOL concluded that the IRA accountholder was a “fiduciary” with respect to the IRA, and thus a disqualified person. However, DOL further acknowledged that the corporation was not a disqualified person because the accountholder owned (in his personal, rather than fiduciary, capacity) less than 50% of the corporation’s stock. Accordingly, DOL agreed that the loan was not a prohibited transaction under section 4975(c)(1)(B).

Citing this opinion, more than one website suggests that so long as you keep your ownership in an entity below 50%, you are free to transact business between the entity and your IRA.

However, although it is correct that the transaction was not a prohibited loan, it does not follow that it was not otherwise a prohibited transaction. To the contrary, the last paragraph of the advisory opinion reaches the opposite conclusion:

Accordingly, a prohibited use of plan assets for the benefit of a disqualified person under section 4975(c)(1)(D) or an act of selfdealing under section 4975(c)(1)(E) is likely to result if [the accountholder] directs the IRA to loan funds to the Corporation. [Emphasis added] It is not entirely obvious why DOL was not a bit clearer in pointing out that the applicant did not ask exactly the right question. One possible answer is that while the existence of a prohibited loan essentially is per se a prohibited transaction, whether a transaction involves a “use” of plan assets or “self-dealing” involves an element of subjective intent. However, if you caused your IRA to lend money (or buy, sell or lease assets, or pay fees) to a business in which you have any substantial interest, it is hard to imagine that it is not your intent to derive a personal benefit from the transaction. (Or at least it would be hard to prove.)

In a 2004 decision, the Tax Court concluded that a taxpayer engaged in a prohibited “use” of 401(k) plan assets when he cause the plan to loan money to three entities in which he owned minority interests (roughly 25 to 33%). Rollins v. Commissioner, T.C. Memo 2004-260 (Nov. 15, 2004). In a 1987 decision, the Second Circuit found (among other things) that the investment of a plan’s assets in a company in which two plan fiduciaries collectively owned approximately 11% (one was also president of the company) was an act of self-dealing. Lowen v. Tower Asset Management, Inc., 829 F.2d 1209 (2d Cir. 1987).

Can these cases be reconciled with Swanson, where the taxpayer caused a corporation he owned “outside” his IRA to pay commissions to a corporation owned by his IRA? Perhaps – one possible difference is that in Swanson the flow of funds was from the taxpayer’s personal account to his IRA, not the other way around. However, we may never know, as it is not clear that either the IRS or the court examined the underlying commission payments in that case except for unrelated business income tax purposes.

Myth No. 4: You are free to loan your IRA assets (sell or buy assets, etc.) to anyone so long as that person is not a disqualified person

 This is a variation on Myth No. 3. The idea seems straightforward enough: if a family member (or corporation, or LLC, etc.) is not a disqualified person, then it is not a prohibited transaction to use your IRA assets to loan money to, or buy property from, or pay a salary to, such person. True, the absence of a disqualified person means that there is no transaction “with” a disqualified person. But, the transaction can also involve “self-dealing,” which is a separate prohibited transaction.

How can it be self-dealing if the benefit flows not to me personally, but to my brother? Because the definition of self-dealing is far broader than is commonly understood. Code section 4975(c)(1)(E) provides that self-dealing means any “act by a disqualified person who is a fiduciary whereby he deals with the income or assets of a plan in his own interest or for his own account .” [Emphasis added.] Regulations adopted pursuant to this rule note that:

These prohibitions [against self-dealing and kickbacks] are imposed upon fiduciaries [such as self-directed IRA accountholders] to deter them from exercising the authority, control or responsibility which makes such persons fiduciaries when they have interests which may conflict with the interests of the plans for which they act. In such cases, the fiduciaries have  interests in the transactions which may affect the exercise of their best judgment as fiduciaries. Thus, a person may not use the authority, control or responsibility which makes such person a fiduciary to cause a plan to pay an additional fee to such person (or to a person in which such fiduciary has an interest which may affect the exercise of such fiduciary’s best judgment as a fiduciary) to provide a service.

Treas. Reg. § 54.4975-6(a)(5). This regulation goes on to say that:

A person in which a fiduciary has an interest which may affect the exercise of such person’s best judgment as a fiduciary includes, for example, a person who is a disqualified person by reason of a relationship with such fiduciary described in section 4975(e)(2)(E), (F), (G), (H), or (I). [That is, certain disqualified persons such as family members and certain businesses in which the person is an owner, officer, director, etc.]

However, the mere fact that a family member or business enterprise is not a disqualified person does not mean that the accountholder does not have an interest in the person that may affect his/her best judgment as a fiduciary. The regulation clearly states that disqualified persons (including certain family members) are examples of persons in which you have an interest that may affect your judgment as a fiduciary. It does not follow that you do not have an interest in your brother, aunt, step-child, etc. DOL in one situation suggested that owning as little as 1.8% of a business was at least relevant to the question of whether a fiduciary had an impermissible interest. At best, some practitioners have suggested that the above regulation might shift the burden of proof from you (to prove you have no interest in a person) to the government (to prove that you do) – it is neither a bright line nor a safe harbor.

If I did make a loan to my brother, how could I prove that I did not have an impermissible personal interest in doing so? Perhaps I could demonstrate that that it was in the best interest of my IRA to make the loan, because he was a good credit risk and had other lenders lined up to make the same loan, or because he agreed to pay a higher-than-market rate of interest and provided excellent collateral. But, is it worth the risk, which could entail loss of the IRA’s tax exemption?

***

 Mr. Matta is a Principal with the Groom Law Group, Chartered. However, the views expressed herein are the personal opinion of the author and do not necessarily reflect official positions of his firm. The statements contained herein should not be considered legal advice and should not be relied upon by anyone without seeking advice of their own counsel. To comply with U.S. Treasury Regulations, we also inform you that, unless expressly stated otherwise, any tax advice contained in this memorandum is not intended to be used and cannot be used by any taxpayer to avoid penalties under the Internal Revenue Code, and such advice cannot be quoted or referenced to promote or market to another party any transaction or matter addressed in this memorandum.

 

Six Widely Held Untruths About Self Directed IRAs

By H. Quincy Long for Self-Directed Source Blog

There is a lot of confusion over self-directed IRAs and what is and is not possible. In this article we will discuss six of the biggest self-directed IRA myths.

1)      Purchasing anything other than CDs, stocks, mutual funds or annuities is illegal in an IRA.

FALSE! According to the Internal Revenue Code for IRAs, the only disallowed investments are life insurance contracts and in “collectibles”, which are defined by the IRS to include any work of art, any rug or antique, any metal or gem (with certain exceptions for gold, silver, platinum or palladium bullion), any stamp or coin (with certain exceptions for gold, silver, or platinum coins issued by the U.S. or under the laws of any State), any alcoholic beverage, or any other tangible personal property specified by the Secretary of the Treasury (no other property has been specified as of this date).

With so few restrictions contained in the law, almost anything else which can be documented can be purchased in your IRA. A “self-directed” IRA allows any investment not expressly prohibited by law. Common non-traditional investment choices include real estate, both domestic and foreign, options, secured and unsecured notes, including first and second liens against real estate, C corporation stock, precious metals, limited liability companies, limited partnerships, trusts and a whole lot more.

2) Only Roth IRAs can be self-directed.

False. Because of the superior tax-free wealth accumulation in a self-directed Roth IRA, many articles are written on how to use a Roth IRA to invest in non-traditional investments. As a result, it is a surprisingly common misconception that a Roth IRA is the only account that can be self-directed. In fact, there are seven different types of accounts that can be self-directed. They include the 1) Roth IRA, 2) the Traditional IRA, 3) the SEP IRA, 4) the SIMPLE IRA, 5) the Individual 401(k), including the Roth 401(k), 6) the Coverdell Education Savings Account (ESA, formerly known as the Education IRA), and 7) the Health Savings Account (HSA). Not only can any of these accounts invest in non-traditional investments as indicated in Myth 1, but they can be combined to purchase a single investment.

3) I don’t qualify for a self-directed Roth or Traditional IRA because I am covered by a retirement plan at work or because I make too much money.

False. Almost anyone can have a self-directed account of some type! Although there are income limits for contributing to a Roth IRA (in 2011 the income limits are $179,000 for a married couple filing jointly and $122,000 for a single person or head of household), having a plan at work does not affect your ability to contribute to a Roth IRA, and there is no Roth IRA age limit either. With a Traditional IRA, you or your spouse having a retirement plan at work does affect the deductibility of your contribution, but anyone with earned income who is under age 70 1/2 can contribute to a Traditional IRA. There are no upper income limits for contributing to a Traditional IRA. Also, a Traditional IRA can receive funds from a prior employer’s 401(k) or other qualified plan. Additionally, you may be able to contribute to a Coverdell ESA for your children or grandchildren, nieces, nephews or even my children, if you are so inclined. If you have the right type of health insurance, called a High Deductible Health Plan, you can contribute to an HSA regardless of your income level. With an HSA, you may deduct your contributions to the account and qualified distributions are tax-free forever! It’s the best of both worlds. All of this is in addition to any retirement plan you have at your job or for your self-employed business.

4) If I want to purchase non-traditional investments in an IRA, I must first establish an LLC which will be owned by my IRA.

False. A very popular idea in the marketplace right now is that you can invest your IRA in an LLC where you (the IRA owner) are the manager of the LLC. Effectively you have “checkbook control” of your IRA funds. Providers generally charge thousands of dollars to set up these LLCs and sometimes mislead people into thinking that this is necessary to invest in real estate or other non-traditional investments. This is simply not true. Not only can an IRA hold title to real estate and other non-traditional investments directly with companies such as Entrust Retirement Services, Inc., but having “checkbook control” of your IRA funds through an LLC can lead to many traps for the unwary. Far from protecting your IRA from the prohibited transaction rules, these setups may in fact lead to an inadvertent prohibited transaction, which may cause your IRA to be distributed to you, sometimes with substantial penalties. This is not to say that there are not times when having your IRA make an investment through an LLC is a good idea, especially for asset protection purposes. Nonetheless, you must educate yourself completely as to the rules before deciding on this route. Having a “checkbook control” IRA owned LLC is kind of like skydiving without a parachute – it may be fun on the way down, but eventually you are likely to go SPLAT!

5) Because I have a small IRA and can only contribute $4,000, it’s not worth having a self-directed IRA.

False. Even small accounts can benefit from non-traditional investing. Small accounts can be co-invested with larger accounts owned by you or even others. For example, one recent hard money loan we funded had 10 different accounts participating. The smallest account to participate was for only $1,827.00! There are at least 4 ways you can participate in real estate investment even with a small IRA. First, you can wholesale property.  Simply put the contract in the name of your IRA instead of your name, and have the earnest money come from the IRA. Then, when you assign the contract, the assignment fee goes back into your IRA. Second, you can purchase an option on real estate, which then can be either exercised, assigned to a third party, or canceled for a fee. Third, you can acquire property in your IRA subject to existing financing or using a non-recourse loan from a bank, a hard moneylender, a financial friend or a motivated seller. Realize, however, that profits from debt-financed property in your IRA may incur unrelated business income tax (UBIT). Lastly, as mentioned above, your IRA can partner with other IRA or non-IRA investors.

6) An IRA cannot own a business.

False. A self-directed IRA is an astoundingly flexible wealth building tool, and it can own almost anything, including a business. However, due to the conflict of interest rules you cannot work for a business owned by your IRA and get paid. Some companies have a plan to start a C corporation, adopt a 401(k) plan, roll an IRA into the 401(k) plan and purchase employer securities to effectively start a new business, but this is not a direct investment by the IRA in the business and is fairly expensive to set up. Also, if your IRA owns an interest in a business, either directly or indirectly through a non-taxed entity such as an LLC or partnership, the IRA may owe Unrelated Business Income Tax (UBIT) on its profits from the business. A solution to this problem may be to have the business owned by a C corporation or another taxable entity.