Must a Self Directed IRA LLC File a Tax Return?

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Many investors don't know that individual retirement accounts, or IRAs, are not restricted to mutual funds, stocks and bonds. Some people use their IRAs to invest in real estate, closely held businesses, farms, ranches, horse-breeding facilities, direct loans and promissory notes and other non-traditional assets. The rules for these investments are complex, however, and one wrong move can potentially result in a huge tax headache. Be sure to consult a professional who specializes in self-directed IRAs before you make any moves.

Self-Directed IRA Overview

  • Internal Revenue Service rules allow people a good deal of leeway in selecting investments for an IRA. As long as the investment does not fall into the category of prohibited investments, described below, tax rules allow people to invest their IRA balances into nontraditional assets and even closely held small businesses. When an investor uses these provisions, rather than taking the traditional route of buying stocks, bonds and mutual funds and holding them in a brokerage or investment company account, he has a "self-directed IRA."

Self-Directed IRA Mechanics

  • When a person forms a business and invests his IRA proceeds into it, he must form a separate entity to hold the IRA assets. This ensures that IRA assets are not commingled with personal, non-retirement assets, which would result in the IRS disallowing the tax benefits of the IRA and ruling the owner has made a distribution, which would cause an immediate tax bill and a possible 10 percent penalty. The person forms a limited liability company or corporation, names himself the director or president and opens a checking account in the business's name. He then rolls IRA assets directly into the bank account and uses the bank account to run the closely held business.

Tax Filing

  • Although assets within IRAs grow tax-deferred -- there is no income tax payable nor capital gains tax liability on transactions so long as the assets never leave the IRA -- the corporation or limited liability company within the IRA must still file tax returns, just as any other business does. S-corporations must file a Form 1120-S, or S-Corporation U.S. Income Tax Return, as do limited liability companies, where the LLC member/owner has elected to have the IRS treat the company like a corporation for tax purposes. C-corporations must file a Form 1120. If the owner has not elected to have the LLC treated as an S-corporation, however, there is no income tax filing requirement. They must, however, file quarterly income tax returns, or Form 941, documenting the withholding and payment of Social Security, Medicare and income tax on behalf of any employees.

Prohibited Transactions

  • The IRS looks carefully at self-directed IRAs because certain kinds of transactions are prohibited. For example, you cannot live in any real estate you own in an IRA, nor can you be holding the real estate and plan to live in it later. You also cannot borrow money from your IRA, nor can you have your IRA purchase assets from yourself or an immediate family member. You also cannot invest in certain kinds of assets in a self-directed IRA, such as alcoholic beverages or collectibles.

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