In the world of retirement planning, Self-Directed IRAs (SDIRAs) are often praised for the flexibility they provide. Unlike traditional IRAs, which typically limit you to stocks, bonds, and mutual funds, a Self-Directed IRA allows you to invest in a broader range of assets, including real estate, precious metals, private equity, and more. But with greater opportunity comes greater responsibility. Understanding the rules that govern SDIRAs is essential to avoid costly mistakes and penalties. In this article, we’ll explore the critical rules you need to know before investing in a Self-Directed IRA, with insights from the experts at Sunset Wealth Management.

What is a Self-Directed IRA?

A Self-Directed IRA is a type of Individual Retirement Account that gives investors more control over their investment choices. While it follows the same general tax rules as traditional and Roth IRAs, the key difference lies in the types of assets you can hold within the account. With a Self-Directed IRA, you can invest in:

• Real estate
  
  
• Private businesses
  
  
• Limited partnerships
  
  
• Tax liens
  
  
• Precious metals
  
  
• Cryptocurrency
  
  

However, this freedom comes with stricter regulatory oversight and a higher risk of violating IRS rules—some of which carry severe tax consequences.

1. Know the Prohibited Transactions Rule

One of the most important rules to understand is the IRS’s prohibition against certain transactions. A prohibited transaction is any improper use of your IRA by you, your beneficiaries, or disqualified persons. Disqualified persons typically include:

• You, the IRA owner
  
  
• Your spouse
  
  
• Your lineal ascendants and descendants (parents, children, grandchildren)
  
  
• Entities you control (like a business where you own more than 50%)
  
  

A common example of a prohibited transaction is using your Self-Directed IRA to buy a property and then living in it or renting it to your child. This personal benefit from an IRA-owned asset is strictly prohibited and can lead to disqualification of the entire account.

2. Avoid Self-Dealing

Self-dealing is closely related to prohibited transactions and occurs when you use your IRA to benefit yourself directly or indirectly. Examples include:

• Paying yourself to manage IRA-owned property
  
  
• Transferring assets you already own into your IRA
  
  
• Receiving compensation from an investment your IRA makes
  
  

To stay compliant, the investment must benefit only the IRA—not you personally.

3. You Need a Qualified Custodian

While you may direct your own investments in a Self-Directed IRA, the account must still be administered by a qualified IRA custodian. Custodians are responsible for holding the assets, maintaining records, and filing IRS forms.

Choosing the right custodian is critical. Not all custodians allow the same types of investments, and their fee structures can vary. Sunset Wealth Management can help guide you through the selection process and ensure you’re partnering with a custodian who supports your investment goals.

4. Understand the UBTI and UDFI Taxes

Self-Directed IRAs can incur taxes that traditional retirement investors rarely deal with—namely, Unrelated Business Taxable Income (UBTI) and Unrelated Debt-Financed Income (UDFI).

• UBTI occurs when your IRA earns income from a business activity that isn’t related to its tax-exempt purpose.
  
  
• UDFI comes into play if your IRA uses borrowed money to acquire an investment property or other leveraged asset.
  
  

If your SDIRA is subject to these taxes, it must file IRS Form 990-T and pay tax from funds within the IRA. Failure to report or pay these taxes can result in penalties and interest.

5. Real Estate Rules and Responsibilities

Real estate is one of the most popular asset classes in SDIRAs. However, it comes with several rules:

• All expenses (repairs, maintenance, taxes, insurance) must be paid from the IRA.
  
  
• All income (rental income, sales proceeds) must return to the IRA.
  
  
• You cannot personally perform work on the property—this includes tasks like painting, repairs, or even basic maintenance.
  
  

A good property manager can be invaluable, especially since you are not allowed to manage the property yourself if it involves any kind of sweat equity.

6. Stay Compliant with Contribution and Distribution Rules

Self-Directed IRAs follow the same contribution limits as standard IRAs. For 2025, the limit is $7,000 per year (or $8,000 if you’re over 50). Exceeding these limits can result in a 6% excess contribution penalty per year until corrected.

Required Minimum Distributions (RMDs) must also be taken from traditional SDIRAs starting at age 73 (as of 2025). Failure to take RMDs can lead to steep penalties of up to 25% of the missed amount.

7. Liquidity Can Be a Challenge

Investments like real estate or private equity are not easily liquidated. If you’re approaching retirement age or might need access to funds, you should factor in the illiquidity of some SDIRA assets. If you can’t meet an RMD due to illiquid assets, you may face penalties.

Working with a financial advisor, such as those at Sunset Wealth Management, can help you balance your portfolio with a mix of liquid and illiquid assets to prepare for future cash flow needs.

8. Reporting Requirements

You must ensure accurate and timely reporting of your SDIRA’s assets and activities. Your custodian typically files Form 5498 (IRA Contributions) and Form 1099-R (Distributions), but you are responsible for tracking the fair market value (FMV) of assets annually, especially with real estate or private equity. Incorrect or missing reporting can lead to scrutiny from the IRS.

9. Choose the Right Investment Partners Carefully

Many investors get into trouble by partnering with friends or businesses that aren’t well-vetted. Due diligence is crucial. If the investment turns out to be a scam or violates IRS rules, it’s the IRA owner who bears the responsibility.

Using a reputable financial advisor who specializes in Self-Directed IRAs—like Sunset Wealth Management—can help you navigate risks and identify legitimate opportunities.

10. Work With Experts

The IRS rules around Self-Directed IRAs are nuanced and can be confusing. A minor mistake could disqualify your account, triggering taxes and penalties on the entire balance. That’s why working with a team of professionals who understand the complexities of SDIRAs is critical.

Sunset Wealth Management offers personalized advice for investors looking to take advantage of Self-Directed IRAs while staying compliant with tax and regulatory rules. Their expertise helps ensure that your retirement investments grow efficiently and safely.

Conclusion

Self-Directed IRAs offer a powerful way to diversify your retirement portfolio and invest in assets beyond the traditional financial markets. But with that power comes responsibility. Before diving in, make sure you fully understand the IRS rules and potential pitfalls. Avoid prohibited transactions, use qualified custodians, report assets correctly, and always act in the best interest of your IRA—not yourself.

If you're considering opening or rolling over a Self-Directed IRA, partnering with a knowledgeable advisor can make all the difference. For more information on how to get started, visit: https://sunsetwealthmgmt.com/self-directed-ira/.

By staying informed and working with trusted professionals like Sunset Wealth Management, you can unlock the full potential of your Self Directed IRA while safeguarding your retirement future.