Stop! Don’t Touch That Deal Until You Avoid These 5 SDIRA Traps
If you’re thinking about using a Self-Directed IRA (SDIRA) to invest in real estate, private equity, notes, or even crypto—hold up. Before you wire funds, sign closing docs, or jump into the next hot deal, you need to know about the common traps that could cost you big.
An SDIRA can be a powerful wealth-building tool, but only if used correctly. One misstep could lead to taxes, penalties, or even disqualification of your IRA. Let’s make sure that doesn’t happen to you. Here are five of the most dangerous SDIRA traps—and how to sidestep them like a pro Dealing with Disqualified Persons
Trap: Making deals with people your IRA isn’t allowed to do business with—like you, your spouse, parents, kids, or their spouses—can trigger a prohibited transaction under IRS rules.
Avoid It: Learn the list of disqualified persons under IRC 4975. Your SDIRA can’t buy from them, lend to them, or benefit them. Keep your IRA investments at arm’s length—even if it’s tempting to do business with family.
Providing “Sweat Equity” or Personal Services
Trap: Rolling up your sleeves to “help” your IRA’s investment—by managing a property, swinging a hammer, or negotiating contracts—can blow the tax shelter wide open.
Avoid It: Your IRA owns the asset, not you. That means no free labor, no decision-making, no management. Hire third-party vendors or property managers, and stay hands-off. The IRS calls this “self-dealing,” and it’s a fast track to disqualification.
Improper Use of IRA-Owned Funds
Trap: Accidentally using personal funds to pay for IRA expenses (or vice versa) is a common mistake. Think: covering repairs out-of-pocket for your IRA-owned rental or paying yourself rent.
Avoid It: Keep every transaction clean and traceable. All income and expenses must flow through the IRA, not your personal accounts. Open a dedicated bank account tied to your SDIRA custodian, and never co-mingle funds.
Trap: Just because your IRA is tax-advantaged doesn’t mean it’s always tax-free. If your SDIRA invests in leveraged real estate (i.e., uses a mortgage), your profits could trigger Unrelated Debt-Financed Income (UDFI)—and taxes under Unrelated Business Income Tax (UBIT).
Avoid It: Know the rules before you borrow. If you’re planning to leverage a real estate deal inside your SDIRA, work with a CPA who understands UBIT/UDFI. Planning ahead can help you minimize tax exposure—or choose an alternative strategy.
Ignoring Custodian Rules or Delays
Trap: Every SDIRA custodian has their own procedures—and if you don’t follow them, your deal could be delayed, denied, or flagged.
Avoid It: Communicate early with your custodian. Ask what documentation they need, how long transactions take to process, and what investment types are allowed. Give yourself extra time for paperwork, especially when deadlines are tight (like with real estate closings).
Final Thoughts: Empower Your IRA, Don’t Endanger It
SDIRAs open the door to powerful investment opportunities. But they also come with serious responsibilities. A single misstep could cause penalties, taxation, or even loss of your IRA’s tax-deferred or tax-free status.
Do your due diligence. Work with professionals who understand SDIRA rules. And educate yourself—because no one cares about your retirement more than you do.
Thinking about investing with an SDIRA and want a guide to help you do it right? Reach out—we’re here to help you invest confidently and compliantly.
Schedule a free consultation with uDirect IRA Services and discover how Self-Directed IRAs and Solo 401(k)s can help you invest in what you know best. Let’s put your retirement on the path from boring to brilliant. Schedule your consultation now
