Self Directed IRA LLCs – Do They File a Tax Return?
IRA Resources frequently receives inquiries about self-directed IRA LLCs (also referred to as “checkbook control IRAs”). It’s essential that people understand how the IRS treats an IRA owned LLC for tax purposes.
Single-member IRA LLCs are treated as disregarded entities, offering greater investing flexibility by eliminating the need to work through a custodian. However, this may increase your risk of engaging in Prohibited Transactions.
UBTI tax applies if your SDIRA invests in an active business that generates unrelated to its tax-exempt purpose, such as certain real estate properties used for construction, development or short-term fix and flips; LLC investments leveraged with debt; dividends, interest, capital gains or royalties may all fall within this definition of income not subject to UBTI.
If your IRA LLC generates taxable UBTI or UDFI, IRS Form 990-T must be filed. It should usually be completed by the passive custodian on behalf of the IRA and an Income Statement K-1 will then be distributed to each owner showing their share of income/loss for that year based on your custodian’s tax ID/EIN rather than personal SSN for this K-1 form.
Self-Directed IRA LLCs provide an ideal investment vehicle to hold alternative investments like real estate, precious metals and private equity. An LLC offers investors both limited liability protection and flow-through tax benefits.
Under certain conditions, an SDIRA may incur Unrelated Business Income Tax (UBIT) or Unrelated Debt-Financed Income (UDFI). UBIT occurs when your IRA invests in trade or businesses that generate income such as rental properties and lending activities, while UDFI occurs when your IRA uses debt financing on investment properties such as by taking out non-recourse loans on commercial properties.
Since your SDIRA is considered disregarded entity by the IRS, its income will be reported on your personal tax return as well as any taxes due. If UBTI or UDFI concerns arise, professional investment, legal, and tax advice should be sought as STRATA does not file IRS Form 990-T nor advise on calculations related to it.
Partnerships (Multi-Member LLCs)
Self-directed IRA LLCs may not need to file taxes if they do not incur UBTI or UDFI obligations; however, even if this is true for them they should still remain aware of any filing obligations with the IRS in order to remain compliant.
An LLC that uses non-recourse loans to purchase real estate that generates income will have its profits taxed as unrelated business income taxed (UBIT). Since profits generated from real estate do not meet an exempt purpose of an LLC and thus fall within UBIT.
An IRA LLC must also be aware that some states levy state taxes on LLC profits where their LLC operates – for instance California levies an LLC profits tax there. Therefore it’s advisable to consult your tax advisor and understand your state’s individual requirements as well as ensure you receive your Schedule K-1 from the LLC so you can report your share of profits on your personal tax return.
Single-Member LLCs
Self-Directed IRA LLCs with only one owner may invest in any asset permitted by the IRS (within reason). You can serve as manager and control of the business; however, disqualified persons or prohibited transactions, such as investing with family members of lineal descent or “self-dealing” (using your IRA funds for payment yourself) cannot invest through them.
Single-member LLCs allow you to avoid both UBTI and UDFI taxes, but you still must file an informational return with the IRS and possibly state renewal fees, depending on where your business operates (California charges a franchise tax of $800 annually, for instance). As this can add up quickly when looking to take advantage of timely investment opportunities that require quick processing or approvals quickly, we suggest setting up an IRA LLC bank account which allows investments directly from this business checking account.
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