The penalty is harsh. A single prohibited transaction turns the entire retirement account balance into a taxable distribution starting Jan. 1 of the year when the penalty occurred. Those under 59 1/2 also face a 10% early withdrawal penalty.
Investors in startup businesses via self-directed accounts can easily blunder into costly missteps. People who own close to 50% of a business need to be careful when adding more shares in a self-directed account. If they cross that threshold, which could be squishy when purchasing difficult-to-value shares in a round of funding, they’ll be in hot water.
Don't assume that because the IRS didn't challenge Thiel, they won't go after you. First, it's unclear whether Thiel engaged in any prohibited transactions— and he has ample resources to hire lawyers to argue the point with the IRS. For almost everyone else, the resources spent are likely to outweigh any benefit.
Despite the caveats, a self-directed retirement account could be suitable for professional real estate investors or venture capitalists, who are in a position to be confident that certain investments stand to earn huge gains.
But remember, if there's any chance of incurring a real-estate investment loss, it's safer to take advantage of straightforward tax breaks that are always available than to play with IRA fire.
Alexis Leondis is a Bloomberg Opinion columnist covering personal finance. Previously, she oversaw tax coverage for Bloomberg News.