Self-Directed Investments for Divorcing Clients: What Advisors Should Know

Checkbook control works by setting up the IRA with a dedicated limited liability corporation, and then opening a bank account for the LLC. This setup allows the investor to invest the IRA funds directly with the new account’s checkbook. Any purchases made with that checkbook automatically become IRA assets. As with any IRA, the account itself is still held by a custodian, but the custodian is not used to execute any transactions. Everything is done straight just by writing a check. This model can cost a little more to set up, but for assets like real estate it saves significantly in transaction fees and ease of use.

The third option is for those who can claim some self-employed income and is known as the self directed Solo 401(k). This plan also has checkbook control, but instead of using a LLC, it works with a Trust. The plan holder opens a checking account at the bank of her choice in the name of the Trust, and then invests the retirement funds using the checkbook. The Solo 401(k) comes with a number of advantages not found in its IRA counterpart, including much higher contribution levels and the possibility of a significant personal loan. Additionally it doesn’t pay unrelated business income tax (UBIT) on real estate investments. What role does a financial advisor play with a self-directed IRA?

The versatility of self-directed platforms allow advisors to interact with them in whichever way they feel most comfortable. One standard approach is to use self-direction as a means of diversification. In this approach, the advisor can guide the client into splitting the retirement funds with some going into more traditional investments, while the rest are self directed. By maintaining the core of the funds in more traditional accounts, the advisor can better insure their security, as well as keep them in a standard AUM arrangement.

Another option (which works well for more experienced advisors) is for the advisor to be named as the manager of the IRA’s LLC. This gives the advisor complete control of asset acquisition and management, and provides for peace of mind in the investment process. In the case where a client wishes to go fully self-directed, an appropriate setup would see the advisor functioning in a fully advisory role (perhaps with a time-based fee schedule), and leaving the actual execution to the client herself.

Getting Educated

Self-directed IRAs are a new area for many financial professionals, and it pays to get educated on their unique requirements. The most common questions that clients ask are those dealing with prohibited transactions. A knowledge of these rules is especially important as a retirement account can lose its tax-privileged status, as well as pay a hefty fee, if these rules are violated.

Although the basic rule is easy — you or any of your linear relatives may not give or receive direct benefit from the account — the details can get a little complicated and are worth knowing well. There are plenty of good resources on the web or in print that give a solid overview of Prohibited Transactions. Additionally, the company that your client chooses to open the self-directed IRA should itself have a solid knowledge base from which to draw.