Owning a Self-directed Roth account is a great way to build your net-worth, tax-deferred, or tax-free. Especially the Roth account. You can only contribute $6,000 per year into this account, that’s why my biggest regret is that I didn’t start this account earlier.

What Is a Self-Directed IRA (SDIRA)?

A self-directed individual retirement account (SDIRA) is a type of individual retirement account (IRA) that can hold a variety of alternative investments normally prohibited from regular IRAs. Although the account is administered by a custodian or trustee, it’s directly managed by the account holder—the reason it’s called “self-directed.”

So, what are these preferred investments as real estate investors?

1. Performing Notes/Private & Hard Money

This is one of my favorite investments, but even more so when I own it in my self-directed Roth IRA. Investing in performing notes is extremely passive, especially if you hire a mortgage servicer, who will do all the accounting and management for you. Another great option is to lend out of your IRA. To stay in the real estate realm, your IRA can step into the hard money role and fund rehabbers on acquisitions and repair costs. The interest income to the Roth account is tax-free as it is considered the growth of your after-tax dollars.

2. Shares of an LLC/LP

There are many opportunities to passively invest in fund offerings or purchase shares of LLCs. This is true mailbox money, as you are not actively involved in a business’s day-to-day operations, and yet you still benefit from the business’s success. Think of it this way: Instead of owning an entire business, your IRA becomes a fractional owner of a business or entity. If you go this route, all the rights and responsibilities of ownership should be spelled out in the operating agreement, so have your attorney review it. The point here is to buy an interest in a business that spins off cash and/or is likely to increase in value so that your IRA stands to benefit from the upside when the shares are sold.

3. Wholesale & Flip Real Estate

By purchasing wholesale and selling to a retail buyer or even another investor, you can still make a nice spread, while maintaining a more passive role in the deal. It’s much more favorable to do inside your IRA because it’s so highly taxed as a short-term capital gain outside a qualified account. The key here is structuring the deal so that the IRA’s ownership is truly independent of your personal actions. Maybe a “financial friend” could sell your IRA a fixer-upper house for $50K and then the IRA would turn right around and re-sell the house to a rehabber for $60K. Think about ways your IRA can get into deals like this, and you’ll soon realize that the possibilities are unlimited.

WARNING: If a prohibited transaction occurs, the IRS could disqualify your IRA, essentially changing its tax-exempt status and making it a nonexempt trust. You would then be taxed on the entirety of your account. For example, even if you only invested $10,000 into the deal, but your account was worth $1MM, your whole account would be taxed. Ouch.