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Self-Directed IRA Versus Traditional IRA

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Traditional IRAs and Roth IRAs

A traditional Individual Retirement Account (commonly called “IRA”) is a retirement account that allows individuals to set aside a prescribed amount of money each year into the account. The money contributed to the account generally provides a tax deduction. The earnings from investments made by the account are “tax deferred” until the money is withdrawn.

A Roth IRA is a special retirement account that you fund with post-tax income (you can’t deduct your contributions on your income taxes). Once you have done this, all future withdrawals that follow Roth IRA regulations are tax free.

Both Traditional and Roth IRAs accounts are generally established with a broker, bank, or mutual fund. The investments that can be made are generally only those offered by the broker, bank or mutual fund and are generally limited to stocks, bonds, or funds offered by the mutual fund or broker.

Self-Directed IRA and Advantages

A self-directed IRA is technically no different than a traditional or Roth IRA. A self-directed IRA can be a traditional IRA, a Roth IRA, and a SEP IRA. A self-directed IRA is unique because of the investment options available. Most traditional IRAs only allow approved stocks, bonds, mutual funds and CDs. A truly self-directed IRA allows these types of investments along with real estate (commercial and residential), precious metals, tax liens, limited liability companies, franchises and much more making an investor less susceptible to downturns in any one sector of the market.

There are approximately  2.5 million  Self-directed IRA accounts in the United States. In the last several years, the number of Self-Directed IRA accounts has grown significantly. The significant increase in the number of Self-Directed IRAs formed can be largely attributed to the poor performance of the stock market, the growth of the real estate market, the lack of liquidity in the small business loan market, and the desire of IRA account holders to have total freedom in the kinds of investments they can make. The major advantages can be summarized as follows:

Tax Advantages

With a Self-directed IRA you have all the tax advantages of traditional IRAs (tax-deferral of all income and investment gains), and tax-free gains for Roth IRAs. All income and gains generated by your IRA investment will flow back to your IRA tax-free. By using a self-Directed traditional IRA to make investments, the IRA owner can defer taxes on any investment returns, thus, allowing the IRA owner to benefit from tax-free growth. Instead of paying tax  at the time the income is earned by  the Self-Directed IRA, tax is paid only at a later date when a distribution from the IRA is taken, leaving the investment to grow tax-free without interruption. Additionally, with the use of a self-directed Roth IRA, all income and gain can be tax free even when distributed.

Investment Options

With a Self-directed IRA, you can invest in almost any type of investment, including real estate, private business entities, tax liens, precious metals and commercial paper tax-free.


With a Self-directed IRA, you can invest in almost any type of investment, including real estate, allowing you to diversify and better protect your retirement portfolio. For example, having real estate in your IRA protects an investor from stock market downturns and volatility.

Investments  That Can be Made by  Self-Directed IRAs Include:

  • Residential or commercial real estate
  • Domestic or Foreign real estate
  • Raw land
  • Foreclosure property
  • Mortgages
  • Mortgage pools
  • Deeds
  • Private loans
  • Tax liens
  • Private businesses
  • Franchises
  • Limited Liability Companies
  • Limited Liability Partnerships
  • Private placements
  • Precious metals such as American gold or Silver  eagles and certain coins that meet certain purity standards)
  • Stocks, bonds, mutual funds
  • Foreign currencies

There are only a few types of investments a Self-directed IRA cannot invest in and these are:

  • Collectibles (art, stamps, jewelry, rugs, baseball cards, etc.)
  • Life insurance contracts
  • Stock of a S corporation

Note:  you may purchase gold and platinum and certain other prescribed precious metals

Types of IRAs that may be self-directed

Traditional IRA

A traditional IRA may be self-directed just by opening an account with a  Custodian  who offers self-directed accounts. In 2018 you may make annual contributions to a traditional IRA up to $5,500  ($6,500 if you’re age 50 or older)

Roth IRA

A self-directed Roth IRA may be established just by opening an account with a  Custodian who offers self -directed IRAs. A Roth IRA differs from a traditional IRA in that contributions to the Roth are not tax deductible,  but all earnings and principal are tax-free as long as the IRS rules are followed. In 2018 you may make annual contributions to a Roth IRA up to $5,500  ($6,500 if you’re age 50 or older)

In a traditional IRA distribution of both principal and earnings are taxable. So, with a Roth IRA, an account holder sacrifices upfront tax deductions for the benefit of tax-free withdraws. The determination of which one is more beneficial depends upon several factors including age, rates of return, and tax rates.


A SEP IRA is a type of traditional IRA for self-employed individuals or small business owners. (SEP stands for Simplified Employee Pension.) The main benefit of a SEP is that it allows significantly greater yearly contributions to the account than a traditional or Roth IRA. For  2018 the limit is the lesser of 25% of an account holder’s compensation or $55,000. A self-directed SEP may be established by opening an account with a  Custodian  who offers self-directed IRAs.

The following may open and contributed to a SEP. Anyone who:

  • is a sole proprietor
  • has a business partnership
  • is a business owner
  • has self-employment income earned by providing a service
  • is an employee of someone who establishes a SEP IRA for his/her employees

Simple IRAs

Savings Incentive Match Plan for Employees IRA (SIMPLE-IRA) is an IRA set up by a small employer for a firm’s employees that allow both matching and elective contributions. These may be used by self-employed individuals (you are treated as employer and employee) and are attractive in that larger annual contributions may be made than in a traditional IRA.

Steps for establishing a self-directed IRA

By law almost all Self-directed IRAs are opened with a Custodian who offers Self-directed IRAs. If you do not have an account with such a custodian, there are only two simple steps for opening an account: They are:

  1. Select the appropriate custodian.  Custodians differ as to amount of experience, fees charged for holding investments and for each transaction undertaken, and quality of service provided (we can help with this process). To open an account for most accounts, all you’ll need is a signed application, copy of your driver’s license, and method of payment (we can help select a custodian). For a list of some of the custodians who provide self-directed IRA services  click here.
  2. Fund the Account.  The issue covered here is how to get funds into your self-directed IRA. There are essentially three ways:


You can make annual contributions to a self-directed IRA and the amount of the annual contributions depends on several factors including your compensation and, the type of IRA. Most individuals establishing a Self-directed IRA will not rely on contributions to fund it but will transfer funds from an existing retirement plan either by way of Transfer, Rollover, or Direct Rollover. to a self-directed IRA Custodian.


A transfer is the term used when the same type of retirement plan is moved directly from one firm to another (the account holder never personally receives the funds).   An example would be moving your Traditional IRA from one IRA custodian to a self-directed IRA custodian. This would apply to traditional or Roth IRAs. Transfers are not reported to the IRS. They are not taxable because assets were never made payable or distributed to the taxpayer.


In a rollover, funds from either a qualified plan (e.g.401(k), 403(b), 457(b), or profit sharing plan) or IRA are received personally and then contributed by the participant to the self-directed IRA custodian. There are major disadvantages to receiving the funds personally

  1. the individual has sixty (60) days from receipt of the eligible rollover distribution to roll the funds into an IRA (otherwise the distribution becomes fully taxable). The 60-day period starts the day after the individual receives the distribution. Usually, no exceptions apply to the 60-day time period, and
  2. taxes may be withheld from the distribution leaving less funds to contribute to the Self-directed IRA.

An unsuccessful rollover will result in full taxation for all assets distributed.

Direct Rollover

Moving assets out of an employer-sponsored plan (such as a 401(k), 403(b), or governmental 457(b) plan) “directly” to an IRA is called a direct rollover. You do not personally receive the funds. If you formerly participated in an employer-sponsored plan, you may direct your previous employer to send your retirement funds directly (without receiving them personally) to an IRA custodian.

A direct rollover is different from a transfer because it involves two different types of plans. If you choose to take a distribution from your employer plan and rollover the assets, the transaction must be completed within 60 days.

Note:  Most employer qualified retirement plans (this includes 401k, 403b, and profit sharing plans) have restrictions on the ability to withdraw funds by way of rollover or transfer to fund a self-directed IRA. In general, in order to transfer or rollover funds from qualified retirement plans to a Self-directed IRA there must be a plan-triggering event. A plan-triggering event is typically based on what is allowed under your employer’s plan documents. Most plan documents allow a rollover under the following circumstances: (i) the termination of the plan, (ii) the plan participant reaching the age of 591/2, or (iii) the plan participating leaving the employer. To determine if you can rollover funds from your employer plan you should consult the plan documents or the plan administrator.

I had been wanting to do this but was afraid that it would be too costly or complicated. This site answered all questions and I was able to communicate directly with an attorney. Thank you!

Patrice, Atlanta, GA


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