Tag Archives: Disqualified People

Can I loan money to a company I own? And what about Rollover for Business Startup (ROBS)?

Question: A husband and wife both have a Roth IRA & husband has a 401(k). He plans to leave his corporate job & start his own business. If Roth & 401(k) funds are transferred to self-directed IRA, can husband & wife use IRA funds to loan start up money to husband’s new business, as along as they pay interest on the loan to IRA? Is this an acceptable or prohibited transaction and how should the loan be structured? If prohibited, is therea way to structure the loan so as to be an acceptable transaction?

Answer: Thank you for your inquiry.  The short answer to your question is no, neither the Roth IRAs nor your 401(k) which is rolled into an IRA can loan start up money for your new business venture.  There is a list of persons with whom the IRA is not permitted to do business, called disqualified persons.  A business owned entirely by you would be a disqualified person, and therefore the proposed loan would be a violation of Internal Revenue Code Section 4975(c)(1)(B), which says that the direct or indirect “lending of money or other extension of credit between a plan and a disqualified person” is a prohibited transaction.

I have heard of people using their 401(k) plans to start a new business by using what the IRS terms a ROBS arrangement (Rollovers for Business Startups), but the IRS clearly does not like these arrangements and believes that the way many of them operate result in a prohibited transaction.  I have attached some information in this regard.  If you do want to go down this path, be sure that whoever you choose is very familiar with the IRS position and that you feel they have adequately dealt with the issues.  Certainly there are many companies out there offering the ROBS set up.  It is fairly expensive to do, though, since it involves setting up a C corporation, having the C corporation adopt a 401(k) plan, rolling the IRA or former 401(k) into the 401(k) for the new company, and purchasing shares of the company as employer securities.  You cannot roll your Roth IRAs into the 401(k) plan, only traditional IRAs.

Finally, you should be aware that Quest IRA, Inc. cannot give you tax, legal or investment advice, and so we could never advise you on how to structure a particular investment or provide you with the forms to do so.  Good luck with your new business venture.  Have a great day!


IRS ROBS Analysis

IRS ROBS Fail Paper

Can you provide input on IRA Owned LLCs?

Question: Quincy can you give us input on whether we need to set up an IRA LLC or is there a better entity for self directed IRA’s? Is selling interest in a LLC the best way to pool IRA money?

Answer: The question of whether to set up an LLC for a particular transaction or series of transactions depends on a lot of factors.  For example, are you going to use the LLC for transactions on a regular basis, or is the LLC set up for a single transaction?  What is the cost of setting up the LLC in the state where you are located?  Are there any income or annual fees to maintain the LLC?  How much will the LLC cost to set up and maintain?  As I always say, “every port of refuge has its price.”  You simply have to analyze the costs and decide whether or not it is worth forming an LLC for your anticipated investments.  I have seen many people use trusts as a viable and less expensive alternative to LLCs, but once again there may be state law issues which affect your decision.

Another question is who will manage the LLC?  Personally, I believe it is not a great idea for an IRA owner to manage an LLC which the IRA owns, for a lot of reasons.  I understand that guidelines on IRA owned entities have been written by the Department of Labor and are under review by the IRS prior to being released sometime later this year.  These guidelines will hopefully shed light on a lot of the issues facing IRA owned entities.

Another factor to be considered is whether or not the operation of the LLC will subject the IRA to Unrelated Business Income Tax (UBIT).  If an IRA operates a business, either directly or through a non-taxable entity such as an LLC, the owing IRA will be subject to taxation and will need to file a Form 990T each year (unless that LLC elects to be treated as a C corporation for tax purposes).  This may impact the return and complicate matters somewhat, but does not at all mean the project shouldn’t be considered (I have investments in my retirement plan that require me to file a 990T each year).  It is conceivable or perhaps even probable that the continuous purchase and sale of notes in the LLC would cause the owning IRAs to owe UBIT, if that is your intent.  You should note that no disqualified person (including, but not limited to, the IRA owners and their immediate familymembers) may receive any current benefit from the transactions engaged in by the LLC.  For example, no commissions may be earned by any disqualified person for purchasing notes within the LLC.

The answer to your second question has significant Securities and Exchange Commission issues, so if you form an LLC and sell its shares you will want to be careful not to make it a “public” offering, or at the very least you should consult with a securities attorney prior to raising capital.  A full discussion of the securities law implications is beyond the scope of a quick email, and is subject to who the members of the LLC are and how they acquire the membership interests.  I have used both trusts and LLCs to accumulate funds for investments, but I have always dealt with immediate family members and close associates, not the “public.”  I am not an expert on securities laws, I just know enough to be dangerous.

Of course you should also realize that any particular asset may be held directly by an IRA as opposed to owning the asset through an LLC.  Depending on the complexity of the transaction and the volume of activity, direct ownership by the IRA or IRAs may be sufficient to meet your needs.

I apologize for the delay in answering your questions. If I can do anything for you, please let me know.  Have a great day!

Can we partner with family members on an Oil & Gas project??

Question: In 2008 an oil company drilled a successful oilwell (30 BOPD, 100 barrels saltwater/day) on my mother’s land and she owns the mineral rights.They were disposing of the saltwater by vacuum truck and hauling to another location.Before the oil company could drill a saltwater(produced ) water disposal well, they went bankrupt. My mother now owns the well, the borehole. My brother and I are both experienced in the oilfield. My brother and I want to go into business together to drill a new disposal well or re-enter an old well in order to get the oil well producing again. Can my brother and I go into business together to get this well producing and make a profit. My brother will fund his 50% of the expenses with his own private funds. I want to use my self directed IRA to fund the other 50% of the expenses. My brother will receive 50% of the profits and my IRA will receive the other 50% of the profits. Of course, my mother will receive her share of the royalties. Is this legal?

Answer: Thank you for your inquiry.  There are a number of problems associated with using your IRA in this transaction.  First of all, you would not be able to fund expenses personally for an investment which your IRA owns.  Second, your mother is a disqualified person as to your IRA, and the investment by your IRA clearly would benefit her, in as much as she receives royalties as a result of making the well produce again.  This would make your proposal a prohibited transaction.  Third, your brother, while not a disqualified person to your IRA, is someone in whom you may have an interest which would affect your best judgment as a fiduciary for your IRA.  If true, it could be argued that a benefit to your brother may be deemed to be an indirect benefit to you, which again, could make this a prohibited transaction.  Fourth, using your own talents to make the deal work may be considered a prohibited transaction or at least an excess contribution to your IRA.  Additionally, as a working interest in an oil well the transaction would likely produce Unrelated Business Taxable Income (UBTI) on which your IRA would owe taxes, assuming the investment made money.  While making an investment in your IRA which causes it to pay taxes on its UBTI does not necessarily mean you shouldn’t do any particular deal, it is something that you must take into account when deciding if a transaction is right for your IRA.

The bottom line is that based on the facts stated in your email I would not think your proposed investment is a wise one in your self-directed IRA, although I cannot give you tax, legal or investment advice.  If you have any further questions, or if you can locate an investment involving non-disqualified persons, we would be very happy to assist you with self-directed IRA services.  Have a great day!

Also, replay H. Quincy Long’s Prohibited Transactions Webinar

Any Loops Holes Around Prohibited Transactions of Real Estate for Personal Use in an IRA?

Question: I am looking for a custodian for a client who wants to make a real estate investment in his IRA.  Quest IRA, Inc. was referred to me by my accountant.  I have a couple questions about the limitations of use of the property by the owner.

Specifically, the accountant mentioned there are some tricky provisions about using the investment for personal use, but it would appear from the articles on the Quest IRA, Inc. site that the property cannot be used at all by the owner, as a vacation home for example.  Is that the bottom line on the issue or are there a few loopholes with the provision?

Answer: Thank you for your inquiry.  Unfortunately, no, there are no loop holes to the restrictions against personal use.  Statutorily, Internal Revenue Code Section 4975 contains the prohibited transaction rules, which prevent, among other things, the direct or indirect:

(c)(1)(A) sale or exchange, or leasing, of any property between a plan and a disqualified person;

(c)(1)(C) furnishing of goods, services, or facilities between a plan and a disqualified person;

(c)(1)(D) transfer to, or use by or for the benefit of, a disqualified person of the income or assets of a plan;

(c)(1)(E) act by a disqualified person who is a fiduciary whereby he deals with the income or assets of a plan in his own interests or for his own account;

Your client, as the owner of the account, is considered a fiduciary and a disqualified person, and of course the IRA is included within the definition of a plan under the statute.  Your client’s spouse, lineal ancestors (Mom, Dad, etc.) and lineal descendants (children, grandchildren, etc.) and their spouses, plus any corporation, partnership, trust or estate in which any of the above owns or controls 50% or more of are all disqualified persons and cannot enter into a transaction with or benefit from a transaction with your client’s IRA.

The prohibited transaction rules are intended to make sure that all transactions within the IRA are on an arms-length basis and that no disqualified person directly or indirectly benefits from the transaction except, of course the IRA owner when he or she takes a distribution from the IRA.

If we can assist you or your clients, please let me know.  Have a great day!

Would it be a prohibited transaction if I only owned 25% of the entity???


I’ve just finished reading a 102 page pdf document which contained articles authored by you concerning Self-Directed IRAs.

I’m confused as to whether or not my particular circumstance would fall under the prohibited transaction category.

I’m employed by XYZ Company, a manager of commercial real estate assets.

XYZ Holdings is under contract to acquire a 50 unit student housing asset in Austin, TX for $4.65 million.  With closing costs and renovation costs, the total costs of the transaction are $5.0 million.  We are financing the acquisition with a $3.75 million loan from KeyBank, and raising the remaining $1.25 million through a friends and family private placement equity raise.

The loan from ABC Bank is an 18 month bridge loan which is full recourse to me and my partner.  However, once we implement some improvements to the asset and increase the net cash flow generated by the property, we will refinance into a non-recourse permanent loan.

As compensation for finding this transaction and sponsoring the deal, my partner and I will receive 25% of the ownership in the entity which owns the asset.  The equity investors who invest the $1.25 million of equity will receive the remaining 75% of ownership in the entity which owns the asset.

XYZ Management Company will manage the asset at some point in the future, but not initially.  I’m technically an employee of XYZ Management Company, but not an owner of XYZ Management Company.

I would like to invest an existing traditional IRA of mine, which has a balance of approximately $160,000, as a portion of the $1.25 million of required equity capital, thus giving me a limited partner position in the ownership entity, in addition to my sponsorship promote equity position.

Is the proposed IRA investment acceptable, or would this be considered a prohibited transaction?

Thank you for your assistance on this issue.


Unfortunately, this would be a prohibited transaction.  You cannot use your IRA for your personal benefit now, and clearly having your IRA invest in a  project that you receive a 25% personal interest in would violate the rules.  The goal of the prohibited transaction rules overall is to make sure that transactions in your IRA are on an arms-length basis.  We would love to assist you with your self-directed IRA needs if you identify an investment that fits within the parameters of the law.  Good luck with your project, and have a great day!

(Quincy’s Most Frequently Read Articles)

Has my Self-Directed IRA been “invalidated”?


Dear Mr. Long,

You are probably going to receive quite a few emails on this subject today.  An “IRA Expert” Tax Attorney (Tim Berry) gave a webinar last night stating that most IRAs (99%) have engaged in a “prohibited transaction” causing them to lose their tax-deferred IRS status and be deemed “fully distributed!”

Naturally, this news was quite disconcerting.  The “prohibited transaction” being an extension of credit between the IRA and a “disqualified person.”  This sentence in the IRA Application is the supposed culprit:

“I agree to release, indemnify, defend and hold the Administrator and/or Custodian harmless from any claims, including, but not limited to, actions, liabilities, losses, penalties, fines and/or third party claims. ansing out of my account and/or in connection with any action taken in reliance upon my written instructions, designations and representations, or in the exercise of any right. power or duty of Custodian and/or Administrator, its agents or assigns.”

By signing the application containing the word “indemnify,” it does seem that I have extended credit on my IRA to a disqualified person, ie: Quest IRA, Inc. as custodian.  Apparently, there was a ruling from the Department Of Labor dated October 2009 clarifying that this is considered a “personal guarantee.”

As an attorney, I hope you are aware of this issue.  The status of my IRA is of great concern and I need to have this issue clarified.  I realize that the attorney giving the webinar was trying to scare us and it worked!  For $1,995 he will go to the IRS, request clemency and get clients’ IRA accounts “re-validated.”  Seems like a bargain considering the taxes and penaties can be up to 60% of the account’s value.  He also stated that the custodian firms were liable for bringing accounts back into compliance.

Please let me know your thoughts on this as soon as possible.  I look forward to hearing from another attorney’s point of view.


Thank you for your email.  I understand your concern, but the ruling that is the basis of these claims is NOT the same facts as we have here at Entrust.  If you read the full sentence below, you will clearly see that you are only indemnifying the Administrator against any of your own written instructions, etc.  In other words, all the sentence you refer to says is that if you instruct us to take some action then you cannot turn around and blame us for following your instructions.  I have attached the actual ruling which I believe forms the basis of the statements by Mr. Berry and others.  Read the clause being referred to as the problem.  It has to do with granting a security interest in all accounts held by that individual at the brokerage firm.  Specifically, the language reads:

“All securities and other property now or hereafter held, carried or maintained by us in our possession or control, for any purpose, in or for the benefit of any of your Accounts, now or hereafter opened, including any Account in which you may have an interest, shall be subject to a continuing first lien and first priority perfected security interest in favor of us for the discharge of all indebtedness and your obligations to us, and are to be held by us as security for the payment of any liability or indebtedness of yours to us in any of your accounts.

You authorize us the right to transfer securities and other property so held by us from or to any other of your Accounts held by us, whenever, in our judgment, we consider such transfer necessary for our protection… .”

As you can see, the situation described in the Opinion Letter is not even close to the situation here at Entrust.  Unlike in the brokerage application, you are not granting a security interest in your account to us or extending your credit in any way to your IRA.  Since Quest IRA, Inc. does not handle any accounts other than IRAs, and since the language in our application clearly does not grant a security interest in your IRA for payment of any liability or indebtedness of yours, the ruling should not apply to your IRA at Entrust.

Other facts which you should be aware of when considering Mr. Berry’s offer include the fact that Advisory Opinion letters from the Department of Labor only apply to the person asking for the ruling.  It is not legal precedent, but rather an interpretation based on the particular facts represented to the Department of Labor for that situation.

Finally, if you step back and think logically about what is being represented by Mr. Berry and others, do you honestly think that the lobbyists for the retirement industry and the politicians would allow the IRS to declare millions of IRAs to be invalidated?  This person is attempting to sell you a “service” that is not necessary, at least in your situation.  If anything, the solution to the problem of the language would be a company-wide one for each custodian, not a case by case solicitation of a prohibited transaction exemption.  It is interesting that all of a sudden Mr. Berry and others are attempting to be so helpful when the ruling has been out since October of 2009.  Have you heard news stories of the IRS sweeping in and declaring millions of IRAs invalid in the last year and a half?  I haven’t either.

Link: http://www.dol.gov/ebsa/regs/aos/ao2009-03a.html

Prohibited Transaction Question


I have a house I directly own outside of an IRA, and I want to sell it to my self directed IRA. I understand that I am a prohibited party and can’t do this directly. HOWEVER, what if I sell it to my mother in law for, say, 30 days, and then she turns around and sells it to my IRA? Is this permissible as somewhat akin to a wash sale, in which I have technically removed myself from the transaction and I’m not running afoul of any IRS rules? Or is the IRS going to view this as a sham/straw transaction and get me in hot water?”

Quincy’s Answer:

Mr. Lambeth, thank you for your inquiry below.  You are correct when you state that you are a prohibited party (disqualified person) as to your IRA and therefore cannot sell property to it which you now own.  Unfortunately, the prohibited transaction rules include both direct and indirect actions, which in this case would mean that to sell it to a non-disqualified third party for 30 days who would agree to sell it back to your IRA would almost certainly be viewed as a prohibited transaction and would definitely, as you say, get you in hot water with the IRS if they discovered it. 

 Also, I would caution you about involving your mother-in-law in transactions with your IRA.  Although she is not a disqualified person as to your IRA (although you ARE a disqualified person as to her IRA since you are married to her daughter), she is a person in whom you have an interest which may affect your best judgment as a fiduciary for your IRA.  Therefore, directing your IRA to enter into a transaction with her could, under certain circumstances, be deemed to be an indirect personal benefit to you and therefore a prohibited transaction. 

Can my Aunt lend me money out of her IRA?


My aunt recently retired and transferred her retirement to a Merrill lynch account. She is going to loan me money for a real estate purchase. Could this be done in a self directed account?


Loans may certainly be made from self-directed IRAs, including those secured by real estate.  This is an everyday occurrence at Quest IRA, Inc.  The only word of caution I want to give you is to be aware of the prohibited transaction rules.  There are a list of persons with whom an IRA is not permitted to do business, called “disqualified persons.”  Fortunately, you would NOT be a disqualified person as to your aunt’s IRA.  However, your aunt should be aware that a benefit to a person in whom she has an interest which would affect her best judgment as a fiduciary for her IRA may be deemed to be an indirect benefit to her, in which case the IRS might argue that it was a prohibited transaction if they ever audited her account.  At a minimum you should be sure that the loan is on commercially reasonable terms.

Unfortunately, a full discussion of the prohibited transaction rules is not possible in a short email.  The good news is that we have tons of articles and other materials on various topics related to self-directed IRAs on our website at www.QuestIRA.com.  Also, you may contact either Nathan Long in our Houston office at extension 3574 or Ryan Kimura in our Dallas office at extension 3584 if you want to have a fuller discussion.  Either of them can provide you with the necessary materials for your aunt to open an account.  Good luck with your investing, and I wish you a happy, healthy and prosperous 2011!

Either a Lender or Borrower Be

By:  H. Quincy Long         

            Personally, I think Shakespeare had it wrong when he penned this advice in Hamlet:  “Neither a borrower nor a lender be; For loan oft loses both itself and friend, And borrowing dulls the edge of husbandry.”  Perhaps he may be forgiven for his error, however, since Shakespeare suffered from a lack of the tremendous benefits of a truly self-directed IRA. 

            Money in self-directed IRAs can be loaned out to any person who is not a “disqualified person.”  While this means that you cannot loan yourself or other related disqualified persons money from your self-directed IRA, you can loan the money to anyone else.  Loans can be secured by real estate, mobile homes, equipment or anything you like.  If you are really a trusting soul, you can even make a loan from your IRA unsecured (although in that case I personally would tend to support Shakespeare’s advice).

            First, let’s look at it from the borrower’s perspective.  At our office we offer a seminar entitled “Make Money Now With Self-Directed IRAs.”  One of the ways you can make money for yourself right now with your knowledge of self-directed IRAs is by creating your own “private bank.”  To do this, simply share the news that an IRA can be a private lender, refer people with IRA money to Quest IRA, Inc. to open a self-directed IRA, and then borrow their IRA money for your own financing needs.

            With private financing the loan terms can be whatever the borrower and the lender agree to within the legal limits.  If you know a person who is getting 5% in a “safe” IRA at a bank, and you can offer them 9% secured by a first lien on real estate with only a 70% loan to value, would they be happy with that?  Even with a higher interest rate, private financing can work for you. IRA loans can be done quickly and without a lot of fees or fuss, which may mean you can get a deal which might be lost if you had to wait on the bank.  This is especially true in distressed sale situations, such as a pre-foreclosure purchase.

            From a lending perspective, your IRA can grow at a nice rate while someone else does all the work.  In a typical hard money loan, the borrower even pays all of Quest IRA, Inc. modest fees as well as any legal fees for preparation of the loan documents.  True, you won’t hit a home run with lending, unless you are fortunate enough to foreclose on the collateral.  But the returns can be quite solid.  For example, by making very conservative hard money loans my Mom’s IRA has grown by about 10.5% in one year.  This is much better than the amount she was earning in her money market fund before she moved her IRA to an Quest IRA, Inc. self-directed IRA. 

            Even small IRAs can combine with other self-directed accounts to make a hard money loan.  My brother recently combined his Roth IRA, his traditional IRA, his wife’s Roth IRA, his son’s Roth IRA, his Health Savings Account (HSA), and 5 other IRAs to make a hard money loan.  The smallest IRA participating in this loan was for $1,827.00!  Each IRA made 2% up front and 12% interest on an 18 month loan, secured by a first lien on real estate with no more than 70% loan to value.

            One thing to avoid in hard money lending is usury.  Usury is defined as contracting for or receiving interest above the legal limit.  The usury limit varies from state to state, with a few lucky states having no usury limit at all on commercial loans.  Some people have the theory of “What’s a little usury among friends?”  However, if the investment goes bad and your IRA has made a usurious loan, the consequences of the borrower making a claim of usury could include the loss of all the principal of the loan plus damages equal to 3 times the interest.  Some states even have criminal usury statutes.  It is best to consult with a competent attorney prior to making a hard money loan to make sure your IRA does not violate any usury laws.

            To see how well hard money lending can work, let me give you an actual example.  One of our clients made a hard money loan from his IRA to an investor who purchased a property needing rehab.  The terms of the loan were 15% interest with no points or other fees except for the attorney who drew up the loan documents.  The loan included not only the purchase price but also the estimated rehab costs.  The minimum interest due on the loan was 3 months, or 3.75%.  The investor began the rehab by having the slab repaired, and before he could take the next step in the rehab process, a person offered him a fair price for the property as is.  The investor accepted the offer, and they closed about 6 weeks after the loan was initiated.

            From the investor’s perspective, was this a good deal?  Yes, it certainly was!  True, he was paying a relatively high interest rate for the time he borrowed the money.  However, he was able to purchase a property with substantial equity which a bank most likely would not have loaned him money to buy due to the condition of the property.  Also, while the interest rate was high, the cost of financing was actually comparatively low.  With a normal bank or mortgage company there are fees and expenses incurred in obtaining the loan.  Common fees include origination fees, discount points, processing fees, underwriting fees, appraisal fees and various other expenses relating to the loan.  On the surface an interest rate may be 8%, but the cost of the financing is actually higher than 8% since a borrower has to pay the lender’s fees in addition to the interest on the loan.  Spread out over a lengthy loan term these additional fees do not add much to the cost of the financing.  However, if an investor has to pay all of these fees up front and then pays the loan off in only 6 weeks, the cost of the financing goes way up. 

            In this case the investor’s total loan costs were limited to 3 months minimum interest at 3.75% plus $300 in attorney’s fees for preparing the loan documents.  Best of all, the investor walked away from closing with $20,000 profit and no money out of his pocket!  Far from “dulling the edge of husbandry” this loan actually made the “husbandry” (ie. the purchase and resale of the property) possible.  Incidentally, the purchaser of the property was absolutely thrilled to get the property at less than full market value so that they could fix it up the way that they wanted it.

            What about the lender in this case?  The lender was also quite happy with this loan.  His IRA received 3 months of interest at 15% while only having his money loaned out for 6 weeks.  For the 6 week period of the investment, his IRA grew at a rate of approximately 30% per annum!  Although his yield was above the legal limit for interest in Texas on loans secured by real estate, prepayment penalties are generally not included in the calculation of usury here, so there was no problem.  The investor was happy, the new homeowner was happy, and the lender was happy.  Anytime you can create an investment opportunity with a win-win-win scenario, you should.

            When I lecture about hard money lending, I ask the audience what they think is the worst thing that happens if you are a hard money lender.  Invariably, most people in the audience answer that you have to foreclose on the property.  Nonsense!  If you are doing hard money lending correctly, the worst thing that can happen is that the borrower pays you back!  Unfortunately, this is a common risk of hard money lending.  Most hard money loans are made at 70% or less of the fair market value of the property.  If you are fortunate enough to foreclose on a hard money loan, your IRA will have acquired a property with substantial equity while the investor did all the work of finding and rehabbing the property! 

            While it is true that foreclosing on a property owned by a friend may cause an end to that friendship, a properly secured hard money loan will at least not “lose itself” as Shakespeare asserts.  In fact, it may lead to substantial profit for your IRA!  To avoid losing a friend, simply don’t loan money from your IRA to someone you would feel bad foreclosing on.  In order to be a successful hard money lender, you do have to be prepared to foreclose on the property if necessary.

            In modern times I believe the proper advice, at least in the right circumstances, is “Either a lender or a borrower be!”  You can make more money for yourself right now by borrowing OPI (Other People’s IRAs).  Borrowing from someone else’s IRA can even lower the total cost of your financing compared to a conventional loan from a bank or mortgage company, especially on short term financing.  From a lending perspective, your IRA can make great returns by being a hard money lender, either through higher than average interest rates or, better yet, through foreclosing on property with equity.  You may find that hard money lending from your self-directed IRA is a great way to boost your retirement savings without a lot of time and energy invested on your part.