Most retirement savers stick with Traditional IRAs or 401(k)s, relying on financial institutions to guide their investments into familiar assets like stocks, bonds, and mutual funds. However, a self-directed investing account opens up new possibilities for those who want greater control, broader diversification, and access to alternative assets.

Whether you’re interested in real estate, private equity, or even cryptocurrency, self-directing your IRA or 401(k) gives you the power to build a retirement strategy that aligns with your goals, not just the market tradition.

In this guide, we’ll explore how self-directed accounts work, how they compare to traditional retirement options, and what to consider before diving in. From potential risks and IRS rules to steps for getting started, here’s what you need to know to take control of your financial future.

What It Means to Self-Direct Your Retirement Account

When you self-direct your retirement account, you control how you invest your funds. That contrasts with standard retirement accounts, in which asset selection, investment platforms, and strategic decisions typically fall to the financial institution holding the account.

To gain this level of control over your investment decisions, you must open a specific type of account, such as a self-directed IRA or 401(k). While standard retirement account investment options are limited to common assets like bonds, stocks, and mutual funds, self-directed accounts can hold alternative assets, including real estate, cryptocurrency, and private equity.

The Impact of Market Downturns on Traditional Investment Portfolios

Traditional assets like stocks and mutual funds are highly susceptible to market volatility. Economic shifts, inflation, and geopolitical events can cause sharp drops in publicly traded markets, putting retirement savings at risk if your portfolio consists primarily of common assets.

Though the tried and often true theory is that markets will rebound, significant dips can reduce compound interest over time. And while younger investors can usually weather the storm, those on the cusp of retirement or saving later in life can be disproportionately impacted by market downturns, both from a total balance perspective and the reduced compound interest.

That’s not to suggest that common assets don’t have a place in your retirement plan. A well-rounded portfolio brings in a mix of common and alternative assets. It does, however, mean that the more you rely on these assets, the more vulnerable your goals become.

How Self-Directed Accounts Offer Greater Diversification

Self-directed accounts allow you to diversify your portfolio beyond public market assets vulnerable to market shifts. Incorporating alternative assets like real estate or private equity can help you hedge against volatility and diversify your portfolio.

In exchange, you gain increased stability during turbulent times, which helps protect your long-term retirement goals from the full impact of market swings.

Alternative Assets That Perform Well in Bear Markets

Traditional assets like stocks often suffer steep losses during bear markets, but certain alternative investments have shown more resilience.

Here are common assets that can provide some protection against market downturns:

Real estate

Real estate tends to hold its value better than stocks during downturns, especially in markets with consistent housing demands. For SDIRA investors, rental property and commercial real estate can offer asset stability and consistent, passive income, even when the public market falters.

Private equity

Because private companies aren’t tied to public stock exchanges, and market sentiment or daily headlines don’t dictate their performance. With a self-directed account, you can invest in private companies that are barred from traditional retirement accounts.

Precious metals

Self-directed 401(k)s and IRAs can hold several precious metals, including gold, silver, and palladium. These precious metals often experience positive value shifts when investor confidence in the market drops. As such, they are usually a wise choice if your goal is to hedge against volatility and inflation, even as common assets lose ground.

Tax liens

Backed by real estate and often secured by law, tax liens are mortgage notes that can yield high returns regardless of the market. Further, compared to other alternative assets, tax liens have a lower buy-in, making them a feasible path towards building a low-value retirement account.

Promissory notes

Promissory notes allow you to become a lender. Options include mortgages as well as personal, business, and equipment loans. When you extend a loan, you can set eligibility requirements, rates, and terms. You can also choose to extend a secured loan (backed by property) or an unsecured loan.

Common Misconceptions About Self-Directed Accounts

Despite their benefits, self-directed accounts are often cloaked in mystery and myth. Here are some common myths (and realities) to remember if you’re considering a self-directed account.

Myth #1: It’s illegal to invest in alternative assets

You can invest in alternative assets as long as you have a self-directed IRA or 401(k). Rules allow for a range of alternative assets, limiting prohibited investments to a handful of named asset classes and circumstances.

Prohibited assets include alcohol, life insurance, collectibles, stock in S-Corps, and metals that don’t meet purity requirements. You’re also banned from self-dealing, meaning you or a disqualified person (spouse, parent, child, etc.) can’t directly benefit from your investment.

Myth #2: You need to be an expert to have a self-directed account

Being an expert has advantages, including within the investing realm, but you don’t need to be a financial guru to reap the benefits of a self-directed account.

If you are unsure about an investment decision, you can consult tax, legal, financial, or industry experts for guidance. You can shape your investment decisions around thorough research and sound advice—no advanced investment degree is required.

Myth #3: Self-directed are entirely different from their standard counterparts

While self-directed accounts allow alternative assets and require the account holder to invest and conduct due diligence, they are otherwise remarkably similar to standard retirement accounts.

For instance, self-directed and standard IRAs have the same contribution limits and tax advantages. Similarly, you can choose between Traditional (tax-deferred) and Roth (tax-free) accounts regardless of which type of IRA or 401(k) you open.

Myth #4: I can’t finance self-directed investments

Many assets, like real estate, can require a substantial upfront investment. That can be discouraging if your account balance isn’t where you want it to be.

However, you can often leverage non-recourse loans to purchase high-value assets. And even though there are tax implications, like unrelated business income tax (UBIT), the earning potential can outweigh the temporary tax.

Myth #5: You don’t need a custodian for your account

Self-directed accounts give you a remarkable amount of control over your investment choices, but you’ll still need to work with an IRS-approved custodian. Your custodian won’t be able to provide investment advice, but they are there to manage administrative work, like processing trades and ensuring the proper paperwork and taxes are filed.

Steps to Start Self-Directing Your IRA or 401(k)

These steps can help you take advantage of self-directed account benefits as soon as you’re ready to get started:

1. Choose the correct account

Both IRAs and 401(k)s can be designated as self-directed. As long as you have an income, you can typically open an IRA account, making it a widely accessible option for most investors.

However, annual contributions are significantly lower than those for a 401(k), so they may not be ideal if you plan to contribute more than $7,000 ($8,000 if you’re 50 or over) in any given tax year.

On the other hand, 401(k)s are only available under specific circumstances. If you’re a business owner or are self-employed, you can typically open a self-directed Solo 401(k).

However, if that doesn’t apply to you, your 401(k) access depends on your employer’s benefits package. In that case, you’d need to speak to your plan administrator to determine if you can open a self-directed account.

 2. Select a qualified custodian

To open a self-directed IRA, you must work with an IRS-approved custodian. If you open a self-directed Solo 401(k), you don’t need one, but choosing one can be highly beneficial.

As you search for a qualified custodian, consider their fees, experience, and reputation. Choose a custodian with a transparent fee structure, experience working with clients who invest in your alternative asset(s) of choice, and a solid reputation.

3. Open and fund the account

Once you find a custodian, it’s time to open the account. This process is generally straightforward, though the exact path depends on your chosen custodian.

You can fund the account in several ways, including:

• Transfers. Moving money from like accounts — e.g., standard IRA to self-directed IRA
• Rollovers. Moving money from one type of retirement account to another — e.g., a 401(k) to a self-directed IRA.
• Contributions. A lump sum contribution (note that your contribution can’t exceed the annual limit of the account you choose)

4. Research and select investments

When your account is up and funded, you can begin investing. Remember that you’re responsible for investment decisions; your custodian can’t offer insights or advice. As such, you must complete due diligence for each investment.

Fortunately, even if your custodian can’t provide insight, other experienced professionals can. It’s often wise to call on professionals, such as legal or industry experts and financial advisors. They can help you further evaluate opportunities and provide insights on how a specific investment will (or won’t) support your retirement goals.

5. Direct the custodian to invest

Submit a formal investment directive to your custodian, who will execute the purchase on your account’s behalf. The investment process can vary by custodian and asset class.

If you want to bypass this step, consider opening an LLC IRA. In this scenario, you create an LLC in the name of your IRA, naming yourself as the account manager. This gives you checkbook control and lets you bypass your custodian to execute trades. In doing so, you gain an extra layer of flexibility to invest when opportunity strikes.

Risks to Consider and How to Manage Them

Self-directed accounts aren’t without risk. Understanding common risks and how to avoid them can help make informed decisions.

• Lack of due diligence. As mentioned above, you’re responsible for researching each investment. Investigate the asset, verify third-party claims, and consult experts when needed.
• Fraud and scams. Due to limited oversight, fraudsters sometimes target alternative investors. Stick with verified sellers or platforms, request all pertinent documentation, and avoid high-pressure sales tactics and investments that sound too good to be true (they often are).
• Prohibited transactions. Using your account assets for personal benefits, like living in your SDIRA-owned property or renting it to a relative, can result in penalties or disqualify your IRA. Learn the IRA rules on disqualified persons and prohibited transactions to avoid this pitfall.
• Limited liquidity. Unlike stocks or mutual funds, assets like real estate or private equity may take time to sell, limiting access to cash. Before investing, consider your investment goals and the liquidity of a specific asset. Keeping cash reserves within your account or balancing illiquid assets with liquid ones is also a good idea.
• Complex record keeping. Alternative assets require more documentation and tax reporting. Use a reputable custodian, keep thorough records, and consider hiring professionals familiar with SDIRAs.

Working with a Custodian or Financial Advisor

Even though a self-directed account gives you more control, you’re not alone. An IRS-approved custodian is still legally required to administer the account, hold assets, and handle required paperwork and filings. While they can’t offer investment advice, they are critical in ensuring compliance, processing transactions, and maintaining account integrity.

Many investors consult financial advisors, tax professionals, or legal experts familiar with SDIRAs to fill the advice gap. These professionals can help you assess risks, evaluate asset suitability, and align investments with retirement goals. When used together, a good custodian and a qualified advisor can make self-directing your retirement account more secure, strategic, and stress-free.

FAQs

Is self-directing riskier than traditional investing?

Some risks are associated with self-directed investment, but the level of risk depends on the assets you choose and the research you complete. Self-directed investing gives you access to alternative assets that aren’t regulated to the same level as publicly traded securities.

Still, you can mitigate or reduce risks with proper due diligence and professional guidance.

Do I need a custodian for a self-directed IRA or Solo 401(k)?

Yes, you must work with an IRS-approved custodian or trustee to hold and administer your self-directed IRA. For Solo 401(k)s, you don’t technically need a third-party custodian, but most investors still use one to help manage compliance and paperwork.

Can I still hold stocks and bonds in a self-directed account?

Yes. A self-directed account can include both traditional and alternative investments if it is structured that way by your custodian. If you want to keep a portion of your portfolio in stocks, mutual funds, or bonds while branching into alternatives, a self-directed IRA or Solo 401(k) gives you that flexibility, but speak with your custodian for details on how to add these assets to your account.