When you hear about Self-Directed IRAs, it’s typically with one thought in mind: diversification. Self-Directed IRAs, after all, allow investors to branch out beyond the typical slate of mutual funds that they might have in a traditional investing option, such as a retirement plan offered through their employer. With a Self-Directed IRA, an investor can move beyond these basic choices and expand into different asset classes like real estate, private companies, tax liens, and precious metals.
But what if you want to invest in stocks?
You still can. It’s possible to maintain a brokerage account for Self-Directed IRAs that will enable investors to make the investment picks that are more suited to their individual style. But it’s important to remember that there are certain rules for these types of accounts, and that investors have to keep an eye on these rules. Here’s what you’ll need to know:
Your Brokerage Account in a Self-Directed IRA and Your Personal Funds are Not Interchangeable
This is probably the most difficult part of the process to understand. When you have a standard taxable brokerage account, it’s easy for you to move money in and out of it. You can deposit funds into it and withdraw them just as easily. All taxable activity is easily recorded for easy reporting come tax-time.
This isn’t the case with a Self-Directed IRA in which you hold brokerage funds. After all, this is a retirement account—it will remain beholden to the same rules that any other retirement account would have. For instance, you couldn’t use a Roth IRA to freely trade stocks, withdrawing and contributing at will. Your Roth IRA is still a Roth IRA, which means that it’s going to have the same rules as any other Roth IRA. The same contributions, the same withdrawal guidelines.
You Can’t Be at Risk of Having Below a $0 Balance
There are ways of trading on the stock market that put the investor at risk for even less than a $0 balance, potentially putting them into debt. This is often known as trading “on margin.” Investors do this by wagering on leveraged financial products. This leverage can increase returns—but it can also increase the risk. This exposure to risk is one that most sound investors would want to minimize anyway, but it’s especially important to note that in a Self-Directed IRA, they’re not allowed. This limits the brokerage options somewhat, as it means that you won’t be taking on those risks.
This isn’t to say that the brokerage account must contain no risky assets. There are plenty of stocks in the public stock market that could be considered risky, depending on your method of evaluation. And with a Self-Directed IRA, it’s possible to build an overall strategy that is either as risky or as risk-averse as the investor wants to make it.
If Transferring or Converting the Account, You’ll Have to Liquidate the Assets
A brokerage account has money in it, sure, but that money is often tied up in the form of stock ownership. In order to transfer money between accounts—such as initiating an IRA transfer—you’ll have to first liquidate those stocks. There is no method of transfer when moving a 401(k) into an IRA, for example, that would retain stock ownership across the accounts.