IRA = Individual Retirement Account
In 1974 Congress passed ERISA legislation. IRA’s really came to life right after that.All IRA’s must have a custodian – that is an IRS stipulation. There are basically three types of custodians.
- One – you can only invest in the investment products they have to “sell”.
- Two – invest in what you wish but all transactions must go through them for a fee of course. This can be slow and expensive.
- Three – passive custodians, much less paperwork and fees and invest as you wish.
It is very important to choose the right type of custodian because any and all fees come right out of your IRA decreasing your rate of return!
What is Checkbook IRA?
IRA accounts held at a custodian generally do not have checkbook control. This suits many custodians just fine. These types of custodians want to review all investment paperwork, not in a fiduciary manner but merely in a custodial manner and of course charge their relevant fees. But, when the owner of a self-directed IRA has total control over his retirement funds and signing authority over his investment decisions, the term checkbook IRA is used. With checkbook control, the account holder does not have to depend on the custodian’s consent when making any alternative investments or wait for his approval when purchasing property or precious metals.
So, a checkbook IRA is just the same as a traditional IRA except that it comes with great investment flexibility and signing authority. Moreover, it also allows the account holder to exercise complete control over all the assets and investments with absolute ease and efficiency.
How Does Checkbook Control IRA Work?
To obtain checkbook control, we use a passive custodian to create an underlying LLC for each of our IRA clients. LLC’s have managers and members. The LLC’s we create will be manager managed. The client will be the manager and the member of the LLC will be the custodian (FBO) for benefit of the IRA. We obtain an EIN for the new LLC and this combined with the articles of organization are what a financial institution requires to let the LLC have a checking account. The LLC checking account is funded by the custodian sending money from the IRA account to the LLC account. Now the client has checkbook control and can invest quickly without any permission needed from the custodian.
Benefits of Using an Underlying LLC
- One – Liability protection that comes with an LLC
- Two – Anonymity – you can name the LLC any name you wish – it is no one’s business who owns the investment
- Three – Clients can invest quickly and confidently
- Four – Most Realtors, Title Companies, Investment Firms are used to LLC’s – you don’t have to explain what a Self-Directed IRA is all the time
- Five – Much lower fees – the client is doing the paperwork, due diligence etc. so the custodian really isn’t doing much at all.
Hint – use a passive custodian. Besides reviewing all investment paperwork, find out if the custodian you are investigating also wants to charge an asset fee. There are custodians who will allow an underlying LLC but then have a fee schedule based upon the assets inside the IRA – the LLC is considered an investment of the IRA – hence an asset!!
6 Steps to Setting up a Checkbook IRA
- Establish an IRA LLC under the expert guidance of an experienced IRA LLC facilitator or a seasoned tax attorney to make sure that your business entity is specifically set up to meet your unique investment needs.
- Open a checking account in the name of the LLC that you’ve just formed.
- Fund your newly formed LLC by requesting your custodian to transfer the funds from your IRA to the new LLC bank account.
- Do not mix your IRA and non-IRA funds and ensure that the business entity is established using the funds in your IRA as the Member-Owner.
- Designate a manager who would be in charge of taking all the financial decisions concerning the IRA LLC. (This can include you or anyone you choose).
- The manager of the LLC is given special privileges to establish a checking account in the name of the LLC and has the authority to write checks and make self-directed investments in the name of the LLC.
The Do’s and Don’ts of Checkbook Control IRA
When you are investing in alternative investments like precious metals, promissory notes, real estate, private placements or tax liens, it is important that you familiarize yourself with the rules and regulations of checkbook IRA.
- Set up the checkbook IRA account in the name of the LLC and not in your name.
- Be sure to use the LLC EIN (employer identification number) for opening the checkbook IRA bank account.
- Make sure all checkbook IRA investments are titled in the name of the LLC and not in your personal name.
- All the investment expenses that are associated with assets in your checkbook IRA must be paid using the funds in your checkbook IRA. Do not use your personal funds to pay for property taxes, repair costs or property insurance for a real-estate property that is linked to your checkbook IRA.
- Deposit all your gains in your checkbook IRA bank account.
- Make all your annual contributions to your self-directed IRA first and not to your checkbook IRA.
- A disqualified person is not allowed to extend any immediate credit nor receive any immediate benefit from the IRA.
- Disqualified person are generally the IRA account owner, spouse, children, grandchildren, parents, grandparents and their respective spouses.
- If the IRA benefits from a disqualified person or a disqualified person benefits from the IRA, it would be a prohibited transaction.
- There are three types of investments not allowed inside your self-directed IRA
- Life Insurance Contracts– Certain Annuities are allowed
- Collectibles– such as rugs, classic cars, stamp collections etc.
- Shares of an ‘X’ Corporation– your plan is not a person but a business entity
Examples of a Prohibited Transaction (PT)
Your IRA is allowed to purchase a rental property. Your daughter would like to pay rent and live there. She is a disqualified person and therefore it would be a prohibited transaction. However, your niece indicates she would like to live and pay rent. Since she is not a disqualified person, it is permissible and not a prohibited transaction.
Your son would like a loan from your Self Directed IRA to help with college expenses. Again, he is a disqualified person so your IRA should not make the loan. Your brother also asks for a loan – for any purpose – he is not disqualified therefore your IRA can make the loan.
Second Rule – Prohibited Investments
There are three types of investments not allowed inside your self-directed IRA.
- Life Insurance Contracts – Certain Annuities are allowed
- Collectibles – such as rugs, classic cars, stamp collections etc.
- Shares of an S Corporation – your plan is not a person but an entity