An Alternative to The Self Directed IRA

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Last week I discussed some of the prohibited transaction rules concerning retirement accounts. The point of my post was to make readers aware of the minefields that exist when investing in real estate in these accounts. These rules apply to all forms of retirement accounts, i.e., IRA, 401(k), ROTH IRA, Defined Benefit Plans, ESOP, 401(a), and others. This week I would like to discuss an alternative to the self directed IRA.

The self directed IRA ("SDI") has garnered a lot of attention in the past six years as the investment vehicle of choice for individuals seeking control over their retirement assets. The real estate market explosion in 2004 was a significant factor in the SDI’s popularity. Traditional brokerage firms that hold most IRA monies limit an individual’s investment choices. Taking your IRA funds and investing in an asset not offered by your broker is not an option. Hence, real estate oriented investors turned to those companies that permit such investments through what is referred to as a SDI.

What many investors do not realize is a pension plan (for this post I am referring to a 401(a) plan, i.e., profit sharing plan) offers the same benefits without some of the hassles associated with a SDI.

When investing through a SDI everything is run through the IRA custodian who must sign purchase and sale documents, offers, checks, etc. (The "checkbook IRA" strategy is a solution, but a few concerns exist here so use guidance.) A 401(a) plan does not require the use of a custodian. With this plan you can serve as your own plan trustee. It is the plan trustee who controls the investments and signs on behalf of the plan. Hence, we eliminate the middleman (IRA custodian) and put you in control of your retirement account. Here is how it works:

  • An individual establishes a Corporation or LLC for their real estate investing business or uses an existing entity;
  • Next he or she establishes a 401(a) plan sponsored by their business and is appointed trustee of the plan;
  • An existing IRA (not ROTH) and/or 401(k) monies with previous employers are rolled into a new account established under the 401(a). This account can be setup with several brokers. I use Schwab for my clients. Married couples can pool all of their funds into one account;
  • The account will have a checkbook attached to it for control; and the Individual can invest in real estate or any other permissible investments (Note; must adhere to prohibited transaction rules).

The 401(a) in addition to offering greater control also provides for higher contributions ($49,000 each year subject to salary), allows for plan loans of up to $50,000 to participants with adequate balances, and provides ERISA protections if a common law employee is hired (a child will satisfy this test).

A 401(a) plan can be a safer alternative to the SDI with additional benefits. It should be noted that a 401(a) may require an annual tax return depending on the plan value and will come with an annual administrative fee. The annual fees for the 401(a) plan will be comparable or less than the custodian fees for a SDI.

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  1. I have a Self Directed IRA with checkbook control. I set it up myself with the help of a CD I bought on ebay for $40.

    I use a custodian who charges me $160 per year in admin fees.

    So I’m a bit confused when you say 401ka does not require a custodian. What role does Schwab play and what are the fees?

  2. I set up a Solo 401k plan with the Solo-k Retirement Group for my real estate investments. With a Solo 401k plan there is no UBIT ( unrelated Business Income Tax), I can choose to use insurance or an LLC to insulate myse sef from any liabilities.

    The funds flow out of and into the 401k plan so any taxes are deferred so I can keep rolling my profits forward. I am my own custodian, trustee, and property manager so I have no aditional fees except t he annual admin fee from the Solo-k Retirement Group.

    Additionally the 401k plan lets me make Roth contributions, take out loans, convert Pretax accounts to Roth accounts, invest in Gold, other LLC’s , private companies, lfwe insurance , tax liens and anywhere else I feel is right for me.

  3. The 401(a) sounds just like a Solo 401(k). Everything you describe in terms of being your own custodian, higher contribution limits, etc., are the same with the Individual K Plan. Can you explain the difference? What issues are you referring to with regards to the checkbook control aspect of the self directed IRA option? As I understand it, a self directed IRA is not the same as a 401(k) plan, as the 401(k) is a qualified retiirement plan with more “powers” than your traditional swlf directed IRA.

    • T.B.

      The 401k and 401a are similar. With a 401a all the contributions come from the employer. The check book control IRA has to do with a LLC being owned by a SDI wherein the IRA owner is in control of the LLC. You are correct about the IRA not being the same as a 401k but note that ERISA protections only apply if you have a common law employee under your 401 plan. A common law employee can be a child or someone other than your spouse.

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