David and Tom Moore, widely known as the 1031 Exchange Bros, have long been trusted advisors in the world of real estate exchanges. But beyond their expertise in 1031 Exchanges, they have also become pioneers in guiding investors through the powerful realm of Self-Directed IRAs. In this comprehensive guide, they unpack the essentials of Self-Directed retirement accounts, demystify complex rules, and reveal how investors can take control of their retirement dollars to invest beyond traditional stocks and bonds—especially into real estate and private loans.
Introduction to Self-Directed IRAs
Self-Directed IRAs represent a revolutionary way for investors to diversify their retirement portfolios beyond the usual stocks, bonds, and mutual funds. David and Tom Moore first ventured into this space in the early 2000s when their 1031 Exchange clients began asking about using IRA funds for real estate investments. Many of these clients were real estate investors who found their retirement funds locked into traditional investments they didn’t fully understand or control. In 2008, the Moores to better serve these clients they created IRA Advantage to expand their investor services to include Self-Directed IRAs.
Unlike standard IRAs managed by Wall Street firms, Self-Directed IRAs give investors the freedom to choose alternative investments such as real estate, private loans, and even startups. The Moores emphasize that their role is not as custodians or investment sellers but as facilitators—helping investors transition their retirement funds into structures that empower them to invest on their own terms.
Why Choose a Self-Directed IRA?
Traditional IRAs often limit investment options to publicly traded securities, which leaves many real estate investors feeling boxed in. Self-Directed IRAs break those barriers, enabling investors to:
- Purchase real estate directly with retirement funds
- Make private loans to developers or businesses
- Invest in startups or private companies
- Control investment decisions without waiting on custodians
Tom Moore recalls the early challenges they faced, including deciding whether to become custodians themselves or third-party administrators (TPAs). They ultimately chose to specialize in setting up the right investment vehicles, such as IRA LLCs and solo 401(k) plans, that clients can manage independently.
Understanding Prohibited Transactions and Disqualified Parties
One of the most critical aspects of Self-Directed IRAs is navigating IRS rules to avoid prohibited transactions—investments or dealings that could jeopardize the tax-advantaged status of the retirement account.
Who is a Disqualified Party?
- The IRA owner themselves
- Spouses
- Lineal descendants and ascendants (children, parents, grandchildren, grandparents)
- Entities owned 50% or more by disqualified parties
Transactions between your IRA and any disqualified party, for example, selling property to your child or hiring your son to do work on an IRA owned rental property, constitute prohibited transactions. Even unpaid “sweat equity” is disallowed because the IRS views any benefit to a disqualified party as a violation.
However, lateral relatives such as siblings, aunts, uncles, nieces, and nephews are not disqualified parties. This means an IRA owner can have legitimate transactions with these relatives, such as renting a vacation property to a sibling, without violating IRS rules.
Common Pitfalls with Prohibited Transactions
David Moore warns that prohibited transactions can have serious consequences. If the IRS determines a prohibited transaction occurred, the entire IRA account may be treated as fully distributed for tax purposes, triggering penalties and immediate taxation. This makes understanding and avoiding these pitfalls paramount for anyone managing a Self-Directed IRA.
The IRA LLC / Checkbook IRA Explained
One of the most popular and efficient structures for Self-Directed IRAs is the IRA LLC, often called a Checkbook IRA. This setup involves forming a limited liability company owned by the IRA, where the IRA owner acts as the manager of the LLC.
Here’s how it works:
- A new custodial account is opened with a Self-Directed IRA custodian.
- An LLC is formed, usually in the investor’s home state or the state where investments will be made.
- The IRA funds are invested into the LLC by the custodian.
- The investor, as manager of the LLC, opens a bank account in the LLC’s name.
- The LLC bank account gives the investor “checkbook control” to make investments quickly without custodian approval delays.
David and Tom emphasize that not all LLCs qualify as IRA LLCs. Simply filing articles of organization via LegalZoom or another service is not enough. The operating agreement and other documentation must meet specific IRS and custodian requirements. The Moores have developed operating agreements that custodians recognize and approve, ensuring smooth setup and compliance.
This structure is especially advantageous for real estate investors who want to act quickly on deals, manage properties, and avoid the cumbersome process of getting every transaction approved by the custodian. It typically takes about a month to set up the IRA LLC, but once established, the investor has full autonomy to negotiate purchase agreements, write checks for earnest money, pay expenses, and manage investments.
Why Not Just Use a Basic Self-Directed IRA?
While a basic Self-Directed IRA allows alternative investments, the process can be slow and complicated. For example, buying real estate directly in the name of the custodian requires the custodian’s approval for every transaction. This creates delays in signing purchase agreements, making earnest money deposits, and managing ongoing property expenses.
In contrast, the IRA LLC empowers the investor to act quickly and directly, making it ideal for active real estate investing.
Custodian Companies: Not All Are Created Equal
When setting up Self-Directed IRAs, the choice of custodian company matters greatly. Some custodians allow IRA LLC investments but prohibit the IRA owner from serving as the LLC manager, defeating the purpose of the checkbook IRA. Others impose cumbersome paperwork or require third-party reviews that complicate investments.
David and Tom caution investors to research custodians thoroughly and work with experienced facilitators who understand the nuances. Over the years, many custodians have been bought and sold, changing policies and requirements unpredictably. It’s essential to work with custodians who support the investor’s goals and enable streamlined investing.
Joint Ownership and Multi-Member IRA LLCs
Many investors, especially married couples, want to pool IRA funds for larger investments. While single-member IRA LLCs are disregarded entities for tax purposes and simpler to manage, multi-member IRA LLCs can be formed to include multiple IRAs as members.
However, there are important considerations:
- IRAs owned by different individuals are disqualified parties to one another. Therefore, transactions between IRAs within the LLC must be carefully structured to avoid prohibited transactions.
- Bringing additional funds into a multi-member LLC after initial funding can be complicated and may require custodian approval for new investments.
- Multi-member LLCs are treated as partnerships for tax purposes, requiring annual partnership tax filings (Form 1065) and issuing K-1s.
David advises that if possible, it’s often simpler for each IRA owner to have their own single-member IRA LLC. If joint investment is necessary, multi-member LLCs or second-tier LLCs can be used, but investors should be aware of the added complexity and costs.
Annual Responsibilities and Proper Maintenance
Owning a Self-Directed IRA LLC is not a “set it and forget it” situation. Ongoing compliance and maintenance are crucial to preserve the tax advantages and avoid IRS scrutiny.
Key responsibilities include:
- Annual Valuation: The custodian requires an annual valuation of the IRA LLC, including all assets and cash. The manager typically completes this using market comps or broker analyses for real estate holdings.
- LLC Renewal: State filings and LLC renewals must be handled annually to keep the company in good standing.
- Registered Agent: The IRA owner may act as registered agent or engage a service to handle compliance documents and notices.
- Annual Review: Some custodians require an annual review of the LLC’s activity to ensure compliance with IRA rules. The Moores provide a questionnaire and review service to assist clients in meeting this obligation.
Failing to meet these requirements can result in penalties or jeopardize the IRA’s tax-favored status. The Moores stress the importance of planning ahead, funding the LLC with sufficient cash reserves, and maintaining proper records.
Distribution Rules and In-Kind Strategies
As investors approach retirement age, required minimum distributions (RMDs) become a key consideration. The IRA LLC structure offers flexibility for taking distributions:
- Cash Distributions: Investors can withdraw cash from the IRA LLC via the custodian, which issues the appropriate tax forms.
- In-Kind Distributions: Instead of selling assets, investors can take distributions in the form of property or LLC membership interests. For example, an investor may receive a fractional ownership interest in a rental property held by the LLC.
While in-kind distributions can preserve investment holdings, they come with tax implications and restrictions on personal use. The IRA owner cannot personally use or work on properties owned by the IRA LLC until fully distributed. Misuse can trigger prohibited transaction penalties.
Rollover Business Startups (ROBS): A Unique Option
Beyond IRAs and 401(k)s, the Moores also discuss Rollover Business Startups (ROBS), a specialized structure allowing investors to use retirement funds to start a new C corporation business.
Key features of ROBS include:
- Setting up a new C corporation and a new 401(k) plan under that corporation.
- Rolling over existing retirement funds into the new 401(k) plan.
- The new 401(k) plan purchases shares in the corporation, providing capital for business operations.
- The investor becomes an employee of the corporation, drawing a salary and managing the business.
This structure is particularly useful for investors who want to actively manage a business or real estate operation—for example, managing a mobile home park or flipping properties where hands-on work is involved (which would be prohibited in a Self-Directed IRA).
Common Questions and Final Thoughts
David and Tom Moore emphasize that Self-Directed IRAs and related structures are not new—they have been around since the mid-1970s—but remain underutilized and misunderstood.
They caution investors to:
- Plan carefully and fund accounts adequately before making offers or investments.
- Understand the rules around prohibited transactions and disqualified parties.
- Choose custodians and facilitators with experience and a track record of compliance.
- Be conservative and seek expert advice before making complex transactions.
The Moores also highlight that while Self-Directed IRAs offer tremendous control and flexibility, they require diligence. Investors have full control over their money, but that also means they bear full responsibility for compliance and risk management.
Ultimately, the goal of Self-Directed IRAs is to empower investors to build diversified, alternative retirement portfolios tailored to their goals—whether through real estate, private lending, startups, or other unique investments.
The Guys With All The Answers…
David and Thomas Moore, the co-founders of Equity Advantage & IRA Advantage
Whether working through a 1031 Exchange with Equity Advantage, acquiring real estate with an IRA through IRA Advantage or listing investment property through our Post 1031 property listing site, we are here to help Investors get where they want to be. Call them today! 503-635-1031.
