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Self-directed IRAs, explained

A self-directed IRA is the same tax-advantaged account you already know — with the freedom to hold real estate, private companies, notes, and energy interests. That freedom comes with strict rules. Here is how SDIRAs work, what's prohibited, and where they fit in a Roth conversion plan.

Updated June 2026 · 2026 tax year
Educational — not tax advice
The short version

A self-directed IRA (SDIRA) is a traditional or Roth IRA held at a specialized custodian that allows alternative assets — real estate, private equity, promissory notes, oil & gas, precious metals — instead of just stocks and funds. The tax wrapper is identical to a regular IRA. What's different is the rulebook: a short list of prohibited transactions with disqualified persons under IRC §4975, and a tax (UBIT/UDFI) on certain leveraged or business income. Break a prohibited-transaction rule and the entire IRA can be disqualified — so SDIRAs reward discipline and good advisors.

In this guide

  1. What an SDIRA is — and isn't
  2. What you can and can't hold
  3. Custodians, administrators & checkbook IRAs
  4. Prohibited transactions & disqualified persons
  5. UBIT and UDFI
  6. Real estate inside an SDIRA
  7. Using an SDIRA in a Roth conversion
  8. Risks & due diligence

What an SDIRA is — and isn't

"Self-directed" describes the custodian, not a different kind of account. It is still a traditional or Roth IRA, with the same contribution limits, the same conversion rules, and the same tax treatment. The only difference is that the custodian permits assets a brokerage won't hold. An SDIRA is not a loophole, a way to access your retirement money early, or a vehicle for personal use of IRA assets — those misunderstandings are exactly what get investors into trouble.

What you can and can't hold

The tax code defines what's prohibited by exception — almost anything is allowed except a short list.

Commonly held: rental and commercial real estate, raw land, private business equity, LLC interests, promissory notes and private lending, tax liens, oil & gas working interests, and certain precious metals.

Prohibited by statute: life insurance contracts and collectibles (art, antiques, gems, most coins, alcohol). Everything else is permitted as long as it doesn't run afoul of the prohibited-transaction rules below.

Custodians, administrators & checkbook IRAs

An SDIRA requires a qualified custodian to hold the assets and handle reporting. Some firms are merely administrators and don't take custody — know which you're dealing with. A common structure is the checkbook IRA, where the IRA owns a single-member LLC and the account holder, as manager, can transact directly. It adds control and speed but also responsibility: every transaction still has to respect §4975.

Prohibited transactions & disqualified persons

This is the heart of SDIRA compliance. Under IRC §4975, your IRA cannot transact with a disqualified person — and the penalty for getting it wrong is severe: the account can be treated as fully distributed, triggering tax and potentially the 10% penalty on the whole balance.

Disqualified persons include you, your spouse, your parents and grandparents, your children and grandchildren (and their spouses), and any entity you control. Notably, siblings are not disqualified.

Prohibited transactions include selling property to your IRA, buying from it, personally using IRA property (you can't vacation in the IRA's rental), lending to it or borrowing from it, or doing "sweat equity" repairs yourself. The rule of thumb: the IRA must deal only with unrelated third parties, at arm's length, with every dollar flowing in and out of the IRA — never your personal pocket.

Bright line: neither you nor any disqualified person may receive a present benefit from IRA assets. If you'd personally touch, use, or profit from the asset outside the IRA, stop and ask your advisor first.

UBIT and UDFI

IRAs are tax-exempt, but two taxes can still reach inside:

These are governed by IRC §§511–514. They don't make leverage off-limits — they're a cost to model. The figures flow onto Form 990-T, filed by the IRA.

Real estate inside an SDIRA

Real estate is the most common SDIRA asset. The IRA buys the property; rent flows back into the IRA; expenses are paid from the IRA. Done inside a Roth SDIRA, all appreciation and rental income can ultimately come out tax-free. The discipline points: no personal use, all cash flows through the IRA, third-party property management, and UDFI on any debt-financed portion.

Using an SDIRA in a Roth conversion

The SDIRA is the engine behind one of this site's two offset strategies. When a self-directed IRA holds leveraged real estate, the taxable amount on a conversion is the IRA's net equity — fair market value minus the loan. Converting when that equity is genuinely suppressed (a value-add property mid-renovation, for instance) means a small taxable conversion now, with future appreciation growing tax-free in the Roth.

Go deeperThe leveraged real estate Roth conversion, step by step →

Risks & due diligence

Alternative assets are illiquid, harder to value, and a frequent target of fraud — the SEC and state regulators warn about SDIRA scams that exploit the "IRS-approved custodian" label (a custodian holding an asset is not an endorsement of it). Valuations matter at conversion and for RMDs. And a single prohibited transaction can unwind the whole account. SDIRAs can be powerful, but they demand a qualified custodian, independent valuations, and counsel who knows §4975 cold.

Frequently asked questions

No. Personal use of IRA-owned property by you or any disqualified person is a prohibited transaction and can disqualify the entire account. The property must be held strictly as an arm's-length investment.
No. "Sweat equity" by a disqualified person is a prohibited transaction. All work must be paid for by the IRA and performed by unrelated third parties.
The IRS can treat the IRA as fully distributed as of January 1 of that year — making the whole balance taxable, plus a possible 10% penalty if you are under 59½. This is why §4975 compliance is non-negotiable.
Yes. A Roth SDIRA follows the same alternative-asset rules, with the added benefit that qualified withdrawals are tax-free — which is what makes converting a self-directed IRA to Roth so powerful.
Possibly. Debt-financed real estate can generate unrelated debt-financed income (UDFI), taxable to the IRA on Form 990-T. It is a cost to model with your advisor, not a prohibition.