Thinking outside the box with your IRA

By The Associated Press

When you open an IRA at a bank or brokerage firm, you’re typically limited to choosing their investment products.

And your investment choices are pretty much limited to stocks, mutual funds and bonds.

But some investors want to do more with their IRAs and invest in nontraditional investments such as real estate, hedge funds or limited partnerships.

That’s where a self-directed IRA comes in.

“People are seeking higher returns than what they’ve seen in their mutual fund accounts,” said Adam Bergman, chief executive of the IRA Financial Group, which helps investors set up self-directed IRAs. “They’re also seeking to diversify so that their entire retirement doesn’t ebb and flow with just the stock market.

“These people want more control over their retirement accounts. They want the opportunities to not just have all their money focused on the stock market. They’re looking for that diversification, as well as the opportunity to do investments that they know and that they have a little bit more trust in.”

So what is a self-directed IRA?

“The term self-directed does not actually have any legal connotation,” according to Pensco Trust Co. “It does not imply a different type of IRA or a separate set of IRS rules. Self-directed is simply an accepted industry term indicating that the IRA custodian is allowing the IRA owner greater control over their investment decisions.”

Firms that help investors set up self-directed IRAs say business has been growing as consumers want their IRAs to get fatter.

Business at Pensco has doubled in the past five years, said Chief Executive Kelly Rodriques.

Before you venture into a self-directed IRA, make sure that you’re participating in your employer’s 401(k) plan — especially if it matches your contribution. Then look to an IRA if you have funds left over for savings.

But self-directed IRAs aren’t for everyone. Here’s what you need to consider:

YOUR KNOWLEDGE LEVEL: How knowledgeable are you about the investments you want to put in your self-directed IRA?

“If you have no comfort in real estate, then maybe you shouldn’t be using a good portion of your retirement funds to buy real estate,” Bergman said. “If you don’t feel (precious) metals are going to be a strong investment, maybe you don’t want to buy it. If you’re not sure of what you know and what you don’t know, you want to be a little bit more conservative.”

A note about precious metals: The only precious metals you’re allowed to put in an IRA are certain types of coins and bullion.

THE LONG HAUL: Can you hold the asset in your IRA for the long haul?

You should be investing your retirement money for the long term anyway, but it’s especially critical with nontraditional investments.

“It is not for everyone because, by definition, most alternative assets are illiquid,” Rodriques said. “If you get into an alternative asset, you may end up holding it for a time horizon that makes you uncomfortable.”

For example, if you own real estate in your IRA and market conditions are bad, you might not be able to sell it when you want to.

KNOW THE RULES: It’s critical to know the rules because if you trip up here, the Internal Revenue Service could disqualify your IRA and you could end up paying income tax and a penalty that could jeopardize your funds.

“The rules are no joke,” Rodriques said.

For example, there are certain “prohibited transactions,” such as using IRA funds to buy collectibles or a life insurance policy or to lend to a family member.

“Dealing with family members when it comes to your IRA is a prohibited transaction because you are considered to be self-dealing,” said Ed Slott, a certified public accountant and author of several books on IRAs.

Self-dealing means you’re using the funds in your IRA “for your benefit, not that of the account,” he said.

“This means that even though it is your savings account, you cannot just treat it as another pocket to dip into for cash you may need to make any old investment,” Slott said. “If you do, your entire account may become taxable due to a prohibited-transaction penalty, and you could end up taking such a hit that your nest egg is depleted.”

BE PRUDENT: “Sometimes an IRA is a great place to focus on that part of your portfolio where you don’t have to worry about capital gains and losses (because of tax deferral), so you can use that IRA as a place to do a little more active trading strategies,” said Wade Chessman, president of Chessman Wealth Strategies in Dallas.

“It’s a great place to focus on your more income-oriented investments because you have the ability of tax deferral,” he said.

However, be sure your trading is disciplined.

“I’m not talking about day trading,” Chessman said. “I’m talking about being more tactical.”

STAY VIGILANT: Always investigate anyone who pitches you an investment.

“There are people who routinely set up investment scams to prey on the elderly,” Rodriques said. “If someone is approached with an investment that allows them to put retirement money into it, you need to scrutinize who that investment sponsor is.”

Don’t forget that this is your retirement money and you need to be especially protective of it.

As Rodriques said: “You’re moving the country’s most precious citizen asset into an investment that you are now more directly involved in.”