Self-directed IRAs can invest in anything, almost. Your options range from mutual funds to race horses to an ownership share in a small company. One thing that's absolutely banned, however, is self-dealing. That's when you invest your IRA in something that benefits you or your spouse, now, rather than when you withdraw money in retirement.
In return for your IRA investments getting a separate tax treatment, you have to keep them separate from your other investments. If you use a self-directed IRA to get around that, the IRS will pounce. Classic examples include selling stock you own to your IRA, having your IRA buy you a vacation home or investing in your business. Having your IRA do business with your spouse, your parents or your children is also self-dealing and gets you in just as much trouble.
Investing in Business
The tax rules don't ban you from investing in businesses, even ones in which you or your spouse own a lot of stock. What you can't do is pour IRA money into a business that your spouse owns at least 50 percent of the stock in, nor can you pour money into his sole proprietorship. One rule of thumb on what's acceptable is that if your spouse sets his own salary and nobody can tell him "no," he probably has too much control to satisfy the IRS.
There's wiggle room between a business your husband owns and one in which he's just one of many investors. If you're thinking of exploiting that gap, it's important to have your lawyer vet your plans first. If the IRS decides you've been self-dealing, your IRA instantly turns into a regular investment account. If you have, say, a $150,000 self-directed IRA, self-dealing strips away its tax-protected status. Once that happens, you have $150,000 in suddenly taxable income to declare this year.
If you're anywhere close to self-dealing, the Forbes website recommends you divide up your investments. Put, say, the $50,000 you're investing in the business in one IRA and leave the rest separate, to minimize losses if you cross the line. If your plans involve buying stock, you may be better off using a taxable account. That way you pay capital gains tax when you sell. Profits from an IRA are taxed as ordinary income, which means you pay a higher tax rate than if the profits were treated as capital gains.
A graduate of Oberlin College, Fraser Sherman began writing in 1981. Since then he's researched and written newspaper and magazine stories on city government, court cases, business, real estate and finance, the uses of new technologies and film history. Sherman has worked for more than a decade as a newspaper reporter, and his magazine articles have been published in "Newsweek," "Air & Space," "Backpacker" and "Boys' Life." Sherman is also the author of three film reference books, with a fourth currently under way.