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How to Open and Set Up a Self-Directed IRA


While most individual retirement plans focus on stocks and bonds, self-directed IRAs allow you to invest in a broader range of assets, from petting zoos and laser tag arenas to residential real estate and silver bars. This account type allows you to diversify your portfolio in unconventional ways and earn hefty returns. Here’s how to open and set up a self-directed IRA.

From 401(k)s to IRAs, a financial advisor can help you manage your retirement savings. Find a fiduciary advisor today. 

What Is a Self-Directed IRA?

A self-directed IRA allows you to invest in various assets typical IRAs can’t access. For example, regular IRAs usually invest in mutual funds, exchange-traded funds (ETFs), stocks, and bonds. However, beyond these traditional asset types, self-directed IRAs can also hold real estate, privately held businesses, tax liens, livestock and more. As a result, you can enjoy the tax benefits of an IRA while investing in alternative assets.

Self-directed IRAs share many characteristics with the average IRA. For example, you can get one in the Roth or traditional variety to suit your tax preferences. In addition, you have the same annual contribution limit: $6,500 for 2023 or $7,500 if you’re 50 or older. Lastly, you’ll incur penalties in most situations if you withdraw money before age 59 ½.

Steps to Opening a Self-Directed IRA

A self-directed IRA is more complex than a regular IRA. Therefore, opening one requires more legwork. The following steps are necessary to obtain a self-directed IRA:

Find a Custodial Firm 

Opening a typical IRA is as simple as asking your bank or using a major investment company to open an account. However, you can only find self-directed IRAs at smaller investment firms specializing in non-traditional accounts. So, you’ll have to find one by searching the internet, asking your network for recommendations or consulting a financial advisor. It’s best to shop around and pick one you trust with your retirement savings. However, the law prohibits your custodian from providing financial advice.

Perform Due Diligence

While a traditional IRA allows you to invest in an index fund without needing active management, a self-directed IRA requires a hands-on approach. In other words, putting a winery in your IRA doesn’t mean you’ll automatically make money. Instead, you’ll need to plan your investment strategy. Doing so means understanding your asset appreciation, the associated fees, the tax implications and how you’ll cash out.

Choose Your Investments

Once you create an investment plan, you can direct your custodian to place specific assets into your account. For example, you might choose to invest a substantial amount in gold or a parcel of undeveloped land.

Investment Options for a Self-Directed IRA

How to Open and Set Up a Self-Directed IRA

A self-directed IRA has wide-ranging possibilities for investing, such as:

Precious Metals

Silver, gold, platinum, and other metals can help you diversify your portfolio. They usually hold their value during market downturns and don’t depreciate because of inflation. However, tax laws prohibit self-directed IRAs from holding collectibles, a classification the IRS applies to certain metal investments. Therefore, it’s vital to understand what type of asset your precious metal stash is.

Real Estate

A self-directed IRA is a catch-all for real estate investments. Whether you own acres of cornfields or a Caribbean beach house, you can put it into your self-directed IRA. In addition, you can also invest in real estate investment trusts (REITs) and mortgage notes.

Another way to indirectly invest in real estate is to purchase tax lien certificates. When a property owner defaults on their mortgage, the municipality can sell the tax lien. Investors can purchase the liens sold at auction.

Non-Traded Businesses

Not all companies sell their shares in the public stock market. Fortunately, your self-directed IRA allows investments in private companies, such as LLCs, C corporations, limited partnerships, hedge funds, private placements, and startups.

Energy Holdings

Energy investments are also viable assets for self-directed IRAs. For example, mineral rights, oil, gas, water power and solar energy assets can all be held in a self-directed IRA.

Private Lending

Private debt can provide substantial investment income. Specifically, you can invest in personal, auto and business loans. In addition, mortgage holdings can go in a self-directed IRA.

Self-Owned LLCs

You can also create an LLC for your self-directed IRA to manage. An investment LLC can increase efficiency and reduce costs for the same assets you’d invest in otherwise.

Advantages of a Self-Directed IRA

A self-directed IRA gives you the freedom to invest in alternative assets. So, if you love investing and have several out-of-the-box assets in mind, a self-directed IRA can house them in a tax-efficient manner. These assets can provide exponentially higher returns than regular investments, meaning you can grow your retirement fund quickly.

Plus, diversification generally strengthens portfolios, so combining your unique assets in one account can promote healthy growth. This aspect means you can take risks without exposing your entire investment fund to one venture.

Finally, your self-directed IRA can be a Roth or traditional account, meaning you can leverage pre-tax or after-tax dollars and receive the corresponding tax benefit. This way, you can reduce income taxes during your career or create a tax-free income stream in retirement.

Risks of a Self-Directed IRA

How to Open and Set Up a Self-Directed IRA

As with any financial instrument, self-directed IRAs come with specific pitfalls, such as:

Asset Performance

Non-traditional assets don’t have guaranteed returns. So, your cattle ranch might become a financial disaster, causing you to lose tens or hundreds of thousands of dollars. It’s up to you to assess an asset’s risk, fees and potential returns  not your custodian. Therefore, you’ll have to depend on your own discernment and investing approach to identify profitable investments.

Prohibited Transactions

The IRS has specific rules for self-directed IRAs. If you break regulations for prohibited transactions, you’ll likely jeopardize the account’s tax advantages and incur financial penalties. For example, you can’t lend yourself money from your IRA or furnish an investment property using money from your account. As a result, it’s crucial to understand the boundaries for managing your IRA.

High Fees

Like annuities, self-directed IRAs can have hefty fees. For example, transferring your account to a custodian can cost hundreds of dollars. Fees vary between custodial firms, so understanding the associated costs before committing to a company is vital.

Liquidity Problems

Assets in typical IRAs are highly liquid because you can quickly turn ETFs and mutual funds into cash. On the other hand, you might have trouble finding a buyer for stock in a privately held company, and the stock might be difficult to value. This situation can result in the inability to turn assets into cash when you need it. You could even incur financial penalties if liquidity issues arise when you try to take required minimum distributions (RMDs).

Management Issues

The companies that run self-directed IRAs are less accountable to their customers than typical investment firms, since they’re not treated as fiduciaries. This drawback means they might overestimate asset performance. In addition, if you go in on an investment with others, disagreements on strategy can stall returns without offering a clear way out.

Asset Concentration

While diversification means spreading your money and risk across numerous asset types, concentration means putting all your eggs in one basket. Concentration can occur in self-directed IRAs when you get in too deep with one or two investments and ignore other opportunities. It’s key to balance risky, unconventional ventures with stable investments, such as index funds. Otherwise, you could lose your nest egg if an asset tanks.

Bottom Line

A self-directed IRA gives you the flexibility to invest in unique assets. Your real estate, small business ventures, precious metals and more can go into a self-directed IRA, generating value and providing tax advantages. However, the variety of asset types means managing the account is more involved, and hiring a custodian is required. In addition, because third-party administration of non-traditional investments introduces more risk, it’s crucial to do your homework and diversify your portfolio.

Tips for Opening a Self-Directed IRA

  • A self-directed IRA needs a thorough plan and a trustworthy custodian. Fortunately, a financial advisor can help identify worthwhile assets and appoint a reliable trustee for your account. Finding a financial advisor doesn’t have to be hard. SmartAsset’s free tool matches you with up to three vetted financial advisors who serve your area, and you can interview your advisor matches at no cost to decide which one is right for you. If you’re ready to find an advisor who can help you achieve your financial goals, get started now.
  • A custodian is a non-optional entity involved in self-directed IRAs. Because you need one, it’s essential to understand how to find the best custodian for your account.

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