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Alternative Assets in IRAs

Disclosure: S2K Financial sponsors investment products that may use the structures described in this article. This content is educational and does not constitute investment advice or a solicitation. 

Most retirement investors hold their IRA assets in stocks, bonds, and mutual funds. This is typically because traditional brokerage custodians limit investment options to publicly traded securities. 

IRAs can hold a much broader range of assets. Real estate, private equity, private debt, and other alternatives are all permissible investments under IRS rules. Accessing them requires a different type of account (a self-directed IRA), but for investors seeking diversification beyond public markets, the expanded menu may be worth exploring. 

 

What Is a Self-Directed IRA?

A self-directed IRA is a retirement account that allows the investor, rather than the custodian, to select investments. While traditional brokerage IRAs offer menus of stocks, bonds, ETFs, and mutual funds, self-directed IRAs permit investment in a broader range of assets. 

The term "self-directed" can be confusing because all IRAs technically allow investor-directed choices from available options. In practice, "self-directed IRA" refers to accounts administered by specialized custodians who can hold non-traditional assets. 

The IRS rules governing IRAs don't specify what assets can be held, they specify what assets are prohibited (life insurance, collectibles, certain coins) and what transactions are prohibited (self-dealing, transactions with disqualified persons). Within these boundaries, though, the investment universe is broader than many investors realize. 

 

What Alternatives Can IRAs Hold?

Self-directed IRAs can hold a range of alternative assets: 

Real Estate 

Direct ownership of residential or commercial property, raw land, development projects, or interests in real estate funds and syndications. The IRA owns the property; income and expenses flow through the IRA; and gains remain tax-advantaged. 

Private Equity and Venture Capital 

Interests in private companies, PE funds, and venture capital funds. These investments offer access to companies before they go public, or that never intend to. 

Private Debt 

Notes, mortgages, and private lending arrangements. The IRA can serve as lender, receiving interest income within the tax-advantaged structure. 

Certain Hedge Funds 

Hedge fund interests that accept IRA capital. Not all funds do, but those structured appropriately can be held in self-directed accounts. 

Precious Metals 

Certain gold, silver, platinum, and palladium coins and bullion that meet IRS specifications. 

 

Why Consider Alternatives in an IRA?

Several factors make alternative assets potentially attractive within retirement accounts. 

Diversification 

Public markets represent one segment of the investable universe. Real estate, private equity, and other alternatives often behave differently than stocks and bonds, potentially reducing portfolio volatility and improving risk-adjusted returns over time. 

Tax-Advantaged Growth 

Alternatives that generate significant current income or capital gains benefit from the IRA's tax-advantaged structure. Real estate income, private equity distributions, and other returns compound without annual tax drag. 

Long Time Horizons 

IRAs are long-term vehicles. The illiquidity that characterizes many alternatives tends to align with the longer planned investment horizon(s) of a retirement account. 

Roth Advantages for Illiquid Assets 

Roth IRAs compound this benefit in two important ways. 

First, no required minimum distributions. Under current law, RMDs begin at age 73 for traditional IRAs (rising to 75 in 2033 under SECURE 2.0). RMDs force liquidation of assets to generate cash for required withdrawals: a particular challenge when those assets are illiquid. Roth IRAs have no RMDs during the owner's lifetime, eliminating the forced-liquidation problem entirely. 

Second, tax-free appreciation. Under current law, if an alternative asset appreciates significantly over a long holding period, qualified distributions from the Roth IRA (including that growth) are tax-free. The longer the holding period and the greater the appreciation, the more valuable the Roth structure becomes. 

For investors considering Roth conversions, alternatives with temporary valuation dips, such as real estate development during construction, can create tax-efficient conversion windows that compound these structural advantages. 

 

Important Tax Considerations: UBTI and UDFI

Alternative assets in IRAs can trigger taxes that don't apply to traditional investments. Understanding these rules is essential before investing. 

UBTI: Unrelated Business Taxable Income 

If an IRA earns income from an active trade or business (not from passive investments) that income may be subject to UBTI tax. This can occur when: 

  • The IRA holds interests in operating businesses 
  • The IRA invests in partnerships that generate active income 
  • Certain types of income flow through from fund structures 

If UBTI exceeds a small deduction threshold (currently $1,000 annually), the IRA may owe tax on the excess, even within the tax-advantaged structure. The specific tax treatment can be complex; consult a tax advisor before investing IRA capital in assets that may generate UBTI. 

UDFI: Unrelated Debt-Financed Income 

If an IRA uses debt to acquire property, the portion of income attributable to debt financing may be subject to UDFI tax. This commonly arises when: 

  • An IRA purchases real estate with a mortgage 
  • An IRA invests in leveraged funds or partnerships 

UDFI can erode the tax benefits of holding leveraged real estate in an IRA. To illustrate: if an IRA purchases a $1 million property with $500,000 in debt, roughly 50% of the property's income may be considered debt-financed, and that portion may be subject to UDFI tax at trust tax rates, which reach the highest bracket at relatively low-income thresholds. \ 

The specific calculation involves the "average acquisition indebtedness" relative to the "average adjusted basis," and the mechanics can be complex. 

This is one reason some investors using SDIRAs for real estate prefer non-leveraged structures, including certain DSTs and all-cash acquisitions, specifically to avoid the UDFI complication. 

Planning Around UBTI and UDFI 

Not all alternatives trigger these taxes. Properly structured investments can minimize or avoid UBTI and UDFI: 

  • Non-leveraged real estate typically avoids UDFI 
  • Funds structured to minimize active income can reduce UBTI exposure 
  • Understanding the structure before investing helps avoid surprises 

Consult a tax advisor before investing IRA capital in alternatives to understand the specific tax treatment of any particular investment. 

 

Prohibited Transactions: What to Avoid

IRS rules prohibit certain transactions that would allow IRA owners to benefit personally from their accounts. Violations can disqualify the entire IRA, triggering immediate taxation and potential penalties. 

Self-Dealing 

The IRA cannot transact with the owner, their family members (spouse, ancestors, lineal descendants), or certain related entities. You cannot: 

  • Sell property you own to your IRA 
  • Buy property from your IRA 
  • Use IRA-owned property personally 
  • Provide services to IRA-owned businesses and receive compensation 

Disqualified Persons 

Transactions with "disqualified persons" (the IRA owner’s fiduciary and members of his or her family such as spouse, ancestor, lineal descendant, and any spouse of a lineal descendant) are prohibited regardless of whether they're favorable to the IRA. 

Indirect Benefits 

Even arrangements that don't involve direct transactions can violate rules if the IRA owner receives indirect benefits. Using IRA-owned property, having family members occupy IRA real estate, or receiving below-market services from IRA investments all create risk. 

The rules are strict. Work with custodians and advisors experienced in self-directed IRAs to ensure compliance. 

 

Custodian Selection

Self-directed IRAs require custodians that can administer alternative assets, and many custodians support these accounts. To learn more, contact us. 

Larger custodians may not necessarily require a firm relationship but may have different requirements for accounts opened through broker-dealers or RIAs versus “retail” accounts opened directly. If you work with a financial professional, confirm whether their firm has approved custodial options or restrictions before opening a self-directed IRA. 

When evaluating a custodian, factors to discuss with your advisor or firm may include: 

Experience with your asset type. Custodians often specialize. Some focus on real estate; others on private equity or precious metals. It is generally preferable to work with a custodian experienced with the types of investments you intend to make. 

Fee structure. Fees can vary widely. Some custodians charge flat fees; others may charge based on account value or transaction volume. Make sure you understand the full fee schedule, including any account, asset, or transaction-level charges. 

Administrative capabilities. Alternative assets typically require more administration than publicly traded securities. Ask whether the custodian can support capital calls, distributions, valuations, and tax reporting for the types of investments you are considering. 

Valuation services. For illiquid assets, clarify how valuations are determined and updated. This affects annual reporting and, in the case of Roth IRA conversions, the valuation used to determine taxable amount. 

 

Considerations and Risks

Self-directed IRAs offer more opportunity but add complexity and risk. 

Due diligence burden. Unlike publicly traded securities with SEC filings and analyst coverage, alternative investments require independent due diligence. The investor typically bears responsibility for evaluating opportunities, including sponsor evaluation for development investments. 

Illiquidity. Most alternatives cannot be readily sold. Capital is committed for extended periods, often with no secondary market. 

Complexity. Administration, tax considerations (UBTI, UDFI), and compliance requirements add complexity that traditional IRAs avoid. 

Fraud risk. The self-directed IRA space has attracted fraudulent schemes. Custodians typically don't evaluate or endorse investments, so investors must independently verify legitimacy. 

 

When Self-Directed IRAs May Not Be a Fit

Self-directed IRAs expand the investment universe, but the expanded access may not be appropriate for you if: 

  • Your IRA balance is too small to justify the costs. Self-directed IRA custodial fees, plus the due diligence costs for alternative investments, create a fixed cost burden. If your total IRA balance is under $100,000-$200,000, the fee drag could erode much of the benefit. 
  • You don't have the capacity (or interest) for independent due diligence. Unlike publicly traded securities with SEC filings and analyst coverage, alternatives require you to evaluate investments independently. If you're not prepared to assess sponsor track records, financial projections, and structural terms, this space carries increased risk. 
  • You need liquidity from your retirement accounts. Most alternatives are illiquid for 3-10+ years. If you may need to access IRA funds for distributions, emergencies, or other purposes during the holding period, tying up capital in alternatives creates practical problems. 
  • You're approaching RMD age with most assets in a traditional IRA. If you'll need to take required minimum distributions soon and haven't converted to a Roth, illiquid alternatives in a traditional IRA create a forced-liquidation problem: you can't easily sell a real estate interest to fund RMDs. 
  • You're primarily attracted by the novelty rather than a specific investment thesis. Alternatives should fill a specific role in your portfolio (such as diversification, income, or conversion timing) not simply add complexity for its own sake. 

 

A Role in Retirement Portfolios

For sophisticated investors comfortable with due diligence, illiquidity, and complexity, alternatives can play a meaningful role in retirement portfolios. The tax advantages and diversification benefits can be substantial; and for those considering Roth IRA conversions, certain alternatives offer timing opportunities that public markets don't. 

The decision requires careful evaluation of specific investments, proper structuring to avoid tax complications, and ongoing attention to compliance requirements. With appropriate planning, self-directed IRAs can access a universe of investments that most retirement accounts never touch. 

 

Disclosures

This material is neither an offer to sell nor a solicitation of an offer to purchase any security, which can be made only by the applicable offering document. Neither the Securities and Exchange Commission nor any state securities regulator has passed on or endorsed the merits of our offerings. Any representation to the contrary is unlawful. Investments involve a high degree of risk, and there can be no assurance that the investment objectives of our programs will be attained. Securities are not FDIC-insured, nor bank guaranteed, and may lose value. Consult the offering documents for suitability standards in your state. 

Investments in private placements are highly speculative, involve a high degree of risk, are suitable only for sophisticated investors and involve significant risks, including the possible loss of your entire investment. In addition, an investment in private placements are illiquid, as there is no secondary market for their interests and none is expected to develop; and there will be substantial restrictions on transferring such interests. Accordingly, an investor may be required to maintain its interest in the private placements for an indefinite period of time. Prospective investors should make their own investigations and evaluations of the information contained in this material and the other operative documents. Please review all risk factors listed in the offering documents before investing.   
  
Investments in multifamily properties that involve significant construction or redevelopment are subject to the uncertainties associated with real estate development, including risks related to cost overruns, construction delays, and the ability to complete the project in accordance with plans, budgets, and timelines.   
  
The information provided is for informational purposes only and should not be considered as financial, legal, or professional advice. Securities offered through S2K Financial LLC, member of FINRA/SIPC.