Tax and Insurance
What is a self-directed IRA?
Apr 22, 2012, 15:22

IRA: In 1974, during President Ford’s administration, the Employee Retirement Income Security Act (ERISA) was created and thus the Individual Retirement Arrangement was born. Today it is simply referred to as an Individual Retirement Account (IRA).

With company pensions becoming harder to find, there was a need for a tax-advantaged savings plan for Americans. Today, with even the future of Social Security becoming uncertain, it is more important than ever that individuals take the initiative to save and secure their retirement as quickly as possible.

Through the years, many changes have been made to IRAs including who can participate and how much annually you are allowed to contribute. Also, the amazing Roth IRA was created in which you do not receive a tax break when funding but all assets can be taken out tax-free in retirement!

To help bring you up to speed, here is a brief summary of some of the changes:

1974 – ERISA creates the first IRA to allow tax deductible contributions of $1,500 per year.

1978 – Through the Revenue Act of 1978 a new plan, called the Simplified Employee Pension Plan (SEP IRA), is created for small business owners.

1981 – Through the Economic Recovery Act of 1981, IRAs are now opened to all employees to contribute.

1986 – Through the Tax Reform Act of 1986, the tax deductible contribution from higher-income individuals is now eliminated.

1996 – Through the Small Business Job Protection Act of 1996, non-working spouses are now able to contribute to a jointly filed IRA. The Savings Incentive Match Plan (SIMPLE IRA) for employees of small businesses is also created.

1997 – Through the Tax Payer Relief Act of 1997, the Roth IRA and the Education IRA are created. These accounts allow non-deductible contributions, but the funds can be taken out tax-free at a later date.

2001 – Through the Economic Growth and Tax Relief reconciliation Act of 2001, the maximum contribution allowed is increased and a special clause for people 50 years old and over to make “catch-up” contributions is enacted.

2006 – Through the Pension Protection Act of 2006, tax-free gifts from an IRA for individuals over 70 ½ and over are now allowed and the Saver’s Credit, an income tax credit for lower income individuals, is created.

2009 – Regular IRAs are now allowed to be “converted” to Roth IRAs as long as you pay the tax that is due upon conversion.

The most recent surveys show that there are nearly 45 million IRA accounts in the United States worth over $5 trillion! (This total was close to $8 trillion before the last stock market slide). However, the truly amazing fact is that nearly 97% of those funds are invested in the stock market! Wall Street has done a fabulous job of convincing the majority of people that investing in the Stock Market via Stocks, bonds and Mutual Funds is really the only option for your retirement funds. After the last few stock market plunges, there now is a huge push for the purchasing of Annuities, too.

However, most people do not realize that they can invest in other assets besides what the stock market offers through a vehicle called the Self-Directed IRA!

Self-Directed IRA:

IRS Publication 590 is the publication that refers to IRA Accounts. It lists several items that you are prohibited from holding in your IRA. Some of these items include:

Art, rugs, antiques, baseball cards, coins, stamps, wine, gems, metals, cars or other tangible personal property

Life Insurance

Capital stock in an “S” Corporation

Notice that the list does not prohibit Real Estate!

A Self-directed IRA is a specialized IRA that allows the owner to invest in a larger array of investments than perhaps what a brokerage would allow you to invest in. IRA owners retain more control over their funds and decide for themselves what allowable items they wish to invest in.

In addition to the prohibited items listed on above, all holders or Custodians of your IRA will impose their own limitations, too. For example, if you open your IRA account with an online brokerage company like E*TRADE, Scottrade, Fidelity or TD Ameritrade (just to name a few), you are limited to investing in what they allow you to invest in … which is most likely only Wall Street options such as Stocks, Bonds, ETFs, Mutual Funds, CDs, Treasuries and Money Market Funds.

All of those items are great .. and probably should be a part of your balanced/diversified portfolio … but you need to know that you have other options available to you!

If you are eligible to have a “Traditional IRA”, then you are eligible to have a Self-Directed IRA.

Your self-directed IRA can be either “Traditional”, meaning that you receive a tax break when you contribute, or it could be a “Roth” version, meaning that you contribute after you pay taxes but you can take the funds out in Retirement tax-free.

What can you invest in?

Besides buying residential real estate with your self-directed IRA, there are other investments that you can make, including:

• Real Estate (such as)

• Single-family homes

• Condominiums/ Villaminiums

• Duplexes

• Other multi-family homes

• Commercial properties

• Vacant / undeveloped land

• New home construction

• Apartments, hotels, motels

• Foreclosure and short sales

• International properties

• Farms

• Private limited partnerships

• Limited liability companies

• Franchises

• Corporate debt offerings

o Loans to existing businesses

o Private stock in closely held corporations

o IPOs (Initial Public Offerings)

• Promissory Notes

o Loans to Non-Prohibited people

• Tax liens

• Trust deeds

• Mortgages

• Debt financed or leveraged real estate

• Annuities

• REITs (Real Estate Investment Trusts)

• Treasuries

• Bank CDs

• Stocks

• Bonds

• Mutual funds

• ETFs (Exchange Traded Funds)

• Treasuries

That is the beauty of the self-directed IRA – there are loads of opportunities other than just the traditional stock market offerings. However, you can still invest in those too!

Diversity … Diversity … Diversity!

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