Self-Directed IRAs
A self-directed IRA is an ordinary IRA whose custodian permits assets beyond listed securities — property, private companies, notes. The tax rules are identical to any other IRA. What differs is that nobody is checking the assets, and that one rule breach does not just tax a transaction. It ends the account.
- Same tax rules, wider assets:: Contribution limits, distribution rules and penalties are unchanged.
- The custodian does not vet:: Holding an asset in the account is not a statement that anyone has verified it exists.
- Prohibited transactions:: Dealings between the IRA and you, your close family or entities you control are barred.
- The consequence is total:: A prohibited transaction can end the account's IRA status, taxing the entire balance in that year.
Where the AI summary above gets this wrong
"A self-directed IRA lets you invest your retirement account in property."
That's surface-true. Here's what it misses:
- Nobody is checking what is in the account — A conventional broker will not let you buy something that does not exist. A self-directed custodian's role is administrative: it holds title and processes paperwork. Statements showing a valuation supplied by the promoter are not verification, and this structure is a recurring feature of investment fraud for exactly that reason.
- You cannot use, improve or benefit from the asset — Property in an IRA cannot be stayed in, worked on by you, or rented to family. Paying for a repair personally is a contribution problem; doing the repair yourself can be a prohibited transaction. The rule is not that the deal must be fair — it is that certain people cannot transact with the account at all.
- The penalty applies to the whole account, not the transaction — This is the part that surprises people. A prohibited transaction can disqualify the entire IRA, which is then treated as distributed on the first day of that tax year — the full balance taxable, with the early distribution penalty on top if applicable.
01 What the structure permits
The tax code allows an IRA to hold most assets other than life insurance and collectibles. Mainstream brokers restrict the menu to listed securities for their own operational reasons; a self-directed custodian does not.
So the account can hold rental property, private company shares, promissory notes, tax liens and similar assets. The contribution limits, the distribution rules and the required distribution requirements are exactly as they would be in any other IRA.
The custodian's role, though, is narrower than the word suggests. It holds the asset in the account's name and processes instructions. It generally does not evaluate whether an investment is sound, or verify the valuation that appears on your statement.
Source: Self-directed IRAs
02 The prohibited transaction rules
The account cannot transact with certain people, described as disqualified persons: you, your spouse, your ancestors and descendants and their spouses, and entities you or they control. The prohibition is on the dealing itself, not on whether the terms were fair.
So the IRA cannot buy a property from your daughter, lend to a company you own, or rent to your parents, even at market rates. You cannot personally guarantee a loan the IRA takes, or provide services to the asset — mowing the lawn of an IRA-owned rental is the standard example.
Expenses have to be paid from the account and income has to be returned to it. That requires the IRA to hold enough cash for repairs, taxes and vacancies, which is an ongoing constraint people frequently do not plan for when the property is bought.
Source: Publication 590-A
03 Why the consequence is so severe
A prohibited transaction does not simply produce a tax on the transaction. It can cause the account to cease being an IRA as of the first day of that tax year, which means the entire balance is treated as distributed then.
The whole amount becomes ordinary income in that year, the early distribution penalty applies if you are under 59½, and because it is usually discovered later, interest and penalties on the underpayment follow. A single misstep on a small property can cost a substantial share of a lifetime's saving.
None of this makes the structure improper. It makes it a structure requiring professional advice before the first transaction, not after a problem. For most households wanting property exposure, holding it outside a retirement account, or through a listed property fund, achieves the exposure without the tripwire.
Shows: what a prohibited transaction can cost, because it treats the entire account as distributed on the first day of that year — the whole balance taxed as income, plus the early distribution penalty if you are under 59½. Ignores: state tax, interest and penalties on the underpayment, and the professional fees of unwinding it.
Source: Publication 590-B
Self-directed IRAs are legitimate and they are also the vehicle I see attached to more bad outcomes than any other. Two things cause it: people assume the custodian is doing due diligence it is not doing, and they assume a rule breach costs them the transaction rather than the account. If you are seriously considering one, pay a specialist to review the first deal before it happens. That fee is trivial against what disqualification costs.
FAQ
Can I live in a property owned by my self-directed IRA?
No. You and other disqualified persons cannot use, occupy or benefit from an asset the IRA holds. Doing so is a prohibited transaction that can disqualify the entire account.
Does the custodian check my self-directed IRA investments?
Generally not. The custodian's role is administrative — holding title and processing paperwork. A valuation shown on a statement is often supplied by the promoter rather than independently verified.
What happens if I make a prohibited transaction?
The account can cease to be an IRA as of the first day of that tax year, making the entire balance taxable as income, with the early distribution penalty on top if you are under 59½.
Sources
Regulator references
- Self-directed IRAs · U.S. Securities and Exchange Commission · 2026What a self-directed IRA custodian does and does not verify.Last verified: 2026-09-07
- Publication 590-A · Internal Revenue Service · 2026The prohibited transaction rules and who counts as a disqualified person.Last verified: 2026-09-07
- Publication 590-B · Internal Revenue Service · 2026What happens to an account that ceases to qualify as an IRA.Last verified: 2026-09-07
Calculator unit tests · the assertions this page's worked example is checked against, and their last result
Changelog
- 2026-09-07 — initial publish (new format)
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Jordan Reeves
Founder of Talk Through Wealth. A software engineer for over a decade before turning to retirement planning, Jordan built the projection engine after watching family members get fragmented, country-by-country advice that never reconciled. He writes about retirement the way the engine computes it: month-by-month, lifetime-long, and skeptical of any rule of thumb that hasn't been run through the math.