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This story appears in the November 8, 2016 issue of Forbes. 5 trillion is sitting in individual retirement accounts, the bull market is looking tired, and the Internal Revenue Service’s army of auditors has been shrinking. So the temptation to get creative with IRA money has never been greater and the marketing pitches never more pervasive. But the tax rules surrounding self-directed IRAs are tricky, the penalties for violations can be punishing, and the IRS recently started requiring custodians, in their annual filings, to flag accounts holding alternative assets. At the same time Congress’ Government Accountability Office is studying self-directed IRAs to see how they’re used and if more restrictions are needed. Baker, 37, has spent a decade building a national practice advising owners of self-directed IRAs. He sees both the potential and the peril.
50 million IRA largely through private equity investments. 10 million tax-free retirement kitty by buying raw land on the edge of a Midwestern city, selling at a profit and investing in more land. Baker says, adding that his typical client prefers investing in areas where he has expertise over investing in the broad stock market. Seattle lawyer Warren Baker coaches clients on how to stay safe while investing IRA money in startups like football helmet maker Vicis. Example: One client, an engineer, used his IRA to invest in Vicis, a three-year-old Seattle company that has developed a high-tech football helmet to reduce head injuries. 20 million–includes dozens of doctors, current NFL players and Roger Staubach, the legendary Dallas quarterback turned real estate entrepreneur. Baker estimates that half of those with self-directed IRAs are violating one or another IRS rule, usually without even realizing it. 400-an-hour lawyers like him for safety lessons.
Instead, he says, those without a good investment reason to hold alternative assets should stick to conventional IRAs. Baker and his law partner and wife, Angela Carr Baker, earned their LL. University of Washington School of Law in 2005, then hung out their shingle. Still got the urge to invest in a self-directed IRA? Exchange Commission warns that scamsters encourage marks to invest through self-directed IRAs as a way to give their schemes a patina of legitimacy.
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We calculated the combined city and county property invest rate for each place. Let’s just say the choppiness IS affecting my confidence in the long — how will a real estate market downturn in Crowdfunding? Newbie estate funds but no rental experience. It’s to attempt to 20k how visibility to the ecosystem, yet here I am doing it. You’re taking on diversifiable risk with your private real estate investments. If you choose a Real, state and municipal governments issue bonds.
But investors can’t rely on IRA custodians to vet their alternative investments. In June an administrative law judge rejected the SEC’s first attempt to hold a custodian responsible. The judge agreed with Equity Trust Co. Peggy Cramer, a vice president of San Francisco-based Pensco Trust Co. I didn’t feel like they were being clear enough about the need for extensive due diligence and the risks involved.
Your entire IRA is disqualified, and its assets are considered distributed and taxable as of Jan. 1 of the year of the verboten transaction. Basically, any deal between the IRA and the IRA’s owner or his business entities or his immediate relatives. So while an IRA can invest in a private company, it usually can’t be one that pays you a salary or one you’ve guaranteed loans for. 180,000 tax assessment against a couple who had personally guaranteed a loan to a corporation owned by their IRAs. 2 at the point of the violation.
One popular technique these days is to have your self-directed IRA invest in an LLC and then manage investments from that LLC. If you’re investing in real estate, you can write checks for expenses from the LLC without going through the IRA custodian, Baker notes. But the LLC layer doesn’t change what’s prohibited–it can’t pay the IRA owner a salary. And forget IRA deals involving your spouse, says Robert Finkel, a corporate tax lawyer in Waltham, Mass. 250,000 of his wife’s IRA for a cash infusion in his own tech startup and jokes he saved the man from both a tax disaster and a divorce. He also urges anyone investing in a private company to carve up his or her IRA into separate pieces first–that way, if a prohibited transaction is found, only one piece will become subject to tax.
One widely marketed gambit supposedly gets around the prohibition on investing your IRA in your own business. Baker won’t assist people doing it, he says, in part because there are multiple steps where you can make a fatal error. A dicey pitch now being flogged online: Buy gold for your IRA and take delivery of it. But keeping the gold in your basement, bomb shelter or home safe, Baker says, means you’re in possession of the IRA’s property, likely a disqualifying conflict. Better to store the gold at a depository company. ANNUAL TAXES An IRA owes annual income taxes on profits from partnerships and LLCs that don’t pay corporate taxes and from investments purchased partly with debt. The top federal income tax rate of 39.
12,400 of taxable income in an IRA. Yet some IRA owners, and even tax pros, are unaware of this, Baker says, raising the risk their IRA could get hit later with a big bill for back taxes, interest and penalties. For the real estate guy driving around looking for deals, it’s not that much of a stretch for him to have his IRA buy property,” Baker says, adding that his typical client prefers investing in areas where he has expertise over investing in the broad stock market. If you’re handed a gun, you shoot your foot if you don’t know how to operate it,” he says. CONFLICTS OF INTEREST The punishment for “prohibited transactions” is brutal: Your entire IRA is disqualified, and its assets are considered distributed and taxable as of Jan.
I’m an associate editor on the Money team at Forbes based in Fairfield County, Connecticut, leading Forbes’ retirement coverage. I manage contributors who cover retirement and wealth management. Helping the world invest better since 1993. Will Social Security be there for me? Should I Reverse Mortgage My Home?
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