Picture the scenario: You’ve been a virtual slave to your office. (Hard to imagine, right?) There’s always some paper to be filed, some phone call that needs to be taken, some meeting that will-just-be-a-few-minutes and isn’t. You have acquiesced to such demands because at the end of every two weeks you receive a piece of paper which has less zeros than you were expecting, but still manages to put food on your table. And by making sacrifices on par with the giving over of your first born, you have somehow managed to put aside a few dollars toward your retirement.
With pride you enter the office of your retirement account provider. Glorious visions dance through your head of what awaits you on the other side of your working career. Luxuriously tranquil blue skies, warm white sand, and a dorky little umbrella drink marking permanent time by your beach-chaired body.
With a little smart investing your retirement funds will be growing every year, and soon enough they should be able to set you comfortably afloat. Maybe if you’re lucky you could even buy the island. The propitious looking gentleman in the nice suit shakes your hand as you come in. He gestures for you to take a seat, as he himself settles comfortably behind his polished teak desk.
“So what can we do for you today?”
You don’t let him know of your island buying aspirations, but you do tell him that you would like to invest your retirement funds.
“Well, then, you’ve come to the right place.”
He tells you of the various funds that you can place your money in so that you may watch it live long and prosper. And then he stops. As you patiently wait for other investment opportunities, it soon becomes abundantly clear that his spiel is over. And quickly a little flag goes up in your head. That’s it? A few mutual funds that are dependent on the health of the stock market to make even nominal returns?
“Excuse me,” you say with your best oh-humble-me grin, “but aren’t mutual funds tied to the stock market?”
He looks at you like he would look at a koala bear who had just recently acquired the faculty of speech. “Of course.”
“If I put my retirement money into one of these funds, then it will have roughly the same stability as the rest of the stock market. A little risky and not so unique don’t you think”
The salesman chuckles in perhaps the most condescending tone that you have ever heard in your entire life.
“Although the stock market occasionally has its up and down days, a mutual fund is still by far the safest haven for your retirement savings.”
He continues to offer soft platitudes, and as he does so, you feel that your mind is beginning to bend. You begin to wonder if there is any way to take control of your retirement funds.
HOW RETIREMENT ACCOUNT MANAGERS MAKE MONEY
Let’s take a step back, and try to understand why the world is the way it is. When you sign up for an account with a third-party provider like Fidelity, what do they get out of it? The one word answer is: money. (But you knew that already)
How do they get your money? With your provider you can choose to have your retirement money go in one of three directions.
1) You can buy stocks, in which case you will be charged a low fee for every transaction.
2) You can hold it in cash, in which case they get access to your money to invest it at a better rate for themselves.
3) You can put it in one of their funds (the most popular choice), which means that they get to invest your money AND charge fees out the wazoo. This is very profitable for them. So much so that they would prefer not to give you any other alternatives.
Hence, the emphasis on the inevitability of the mutual fund as a retirement plan. Which, of course, leaves you gritting your teeth. Because you know that a mutual fund in good times gives you an okay return, and in roller coaster times (which, last we checked, has become the new norm,) will give you Richter-scale heart palpitations every time you look at your statement.
What you really want is a platform where you can put your retirement funds into sensible investments and not have to worry about a random banker falling on your head. You want to self-direct.
A SELF-DIRECTED IRA GIVES YOU MORE FLEXIBILITY
For the more sophisticated investor, a self-directed IRA gives you the tools you need to put your retirement funds in investments that you know and understand. This could be local real estate (foreclosures and rentals are popular choices), a private business that you have experience with, or even a personal mortgage.
Whichever direction you go, you will always have complete control over your retirement funds and decide the where, when, and how of investing them.
Choosing a self-directed IRA facilitator requires doing a little homework as different companies offer differing platforms and pricing structures. There is one key feature, however, which is a must- have. That’s the feature of Checkbook Control. To understand why this is such an important feature, let’s run through the self-directed IRA process to find out how it all works.
Most self-directed IRAs function by setting up a dedicated LLC. This new LLC can place virtually any investment with the IRA funds. That’s the basis for all of the standard platforms. Where the platforms differ, though, is in who controls the process. In the Custodian model, the investor must go through the custodian for all investments and transactions. The investor fills out a form, sends it in, and the waits for the Custodian to execute the transaction. As you can imagine, this process can be frustratingly slow and paperwork heavy. Additionally, the Custodian often has an extensive fee schedule for each of the transactions that it will be performing for the investor.
In the Checkbook Control model, the investor effectively cuts out the middleman Custodian (along with all accompanying hassles and fees!) The Checkbook Control model accomplishes this by appointing the investor as the uncompensated manager of the LLC, and then opening a checking account in the name of the LLC. Now the investor can place investments by simply writing a check. It’s a rare win-win situation as the investor receives greater control at a more economical price.
As the stock market continues its long term volatility, it pays to look beyond Wall Street when planning your retirement strategy. With a self-directed IRA, you can finally be in control of creating your own prosperity.
RECOMMENDATIONS TO BUILD WEALTH
* Manage Your Finances In One Place: The best way to become financially independent and protect yourself is to get a handle on your finances by signing up with Personal Capital. They are a free online platform which aggregates all your financial accounts in one place so you can see where you can optimize. Before Personal Capital, I had to log into eight different systems to track 25+ difference accounts (brokerage, multiple banks, 401K, etc) to manage my finances. Now, I can just log into Personal Capital to see how my stock accounts are doing and how my net worth is progressing. I can also see how much I’m spending every month.
The best tool is their Portfolio Fee Analyzer which runs your investment portfolio through its software to see what you are paying. I found out I was paying $1,700 a year in portfolio fees I had no idea I was paying! They also recently launched the best Retirement Planning Calculator around, using your real data to run thousands of algorithms to see what your probability is for retirement success. Once you register, simply click the Advisor Tolls and Investing tab on the top right and then click Retirement Planner. There’s no better free tool online to help you track your net worth, minimize investment expenses, and manage your wealth. Why gamble with your future?
* Invest Your Money Efficiently: Wealthfront, the leading digital wealth advisor, is an excellent choice for those who want the lowest fees and can’t be bothered with actively managing their money themselves once they’ve gone through the discovery process. All you’ll be responsible for is methodically contributing to your investment account over time to build wealth.
In the long run, it is very hard to outperform any index, therefore, the key is to pay the lowest fees possible while being invested in the market. Wealthfront charges $0 in fees for the first $15,000 if you sign up via my link and only 0.25% for any money over $10,000. You don’t even have to fund your account to see the various ETF portfolios they’ll build for you based off your risk-tolerance. Invest your idle money cheaply, instead of letting it lose purchasing power due to inflation.
About the Author: Sam began investing his own money ever since he opened an online brokerage account online in 1995. Sam loved investing so much that he decided to make a career out of investing by spending the next 13 years after college working at Goldman Sachs and Credit Suisse Group. During this time, Sam received his MBA from UC Berkeley with a focus on finance and real estate. He also became Series 7 and Series 63 registered. In 2012, Sam was able to retire at the age of 34 largely due to his investments that now generate roughly $175,000 a year in passive income. He spends time playing tennis, hanging out with family, consulting for leading fintech companies, and writing online to help others achieve financial freedom.
Updated for 2016 and beyond.