Prohibited Transaction Rules, Part II: Who is a prohibited person?

By Jordan Sheppherd

disqualified nl

Part I of this series was all about defining what constitutes a prohibited transaction.  You know that any deal or transaction of any kind between a plan and a prohibited person is a prohibited transaction.  Super.  But what is a disqualified person?

(NOTE : For purposes of this series, I will use disregarded and prohibited interchangeably; they mean the same thing.  So, a disqualified person is the same as a prohibited person or party, a prohibited entity is the same as a disqualified entity, etc…)

Let’s look at USC›Title 26›Subtitle D›Chapter 43›§ 4975 (e)(2):

(2) Disqualified person

For purposes of this section, the term “disqualified person” means a person who is—

(A) a fiduciary;

(F) a member of the family (as defined in paragraph (6)) of any individual described in subparagraph (A), (B), (C), or (E);

There’s more to this section that has to do with entities, but we’ll deal with the rest in a later post.  For now, we’ll focus on (A) and (F) because it has immediate importance regarding the CheckBook IRA LLC.  You can read the definition of a fiduciary in the code itself but, in plain English it means any person that has any control over the IRA, or in this case the IRA/LLC.  So, whoever serves as the Manager(s) of the IRA/LLC will be considered a fiduciary.  The next section is (F) which states that a member of the family is also considered a disqualified person.  That’s pretty vague language “a member of the family”, but thankfully the code fleshes this out a bit later in (e)(6):

(6) Member of family

For purposes of paragraph (2)(F), the family of any individual shall include his spouse, ancestor, lineal descendant, and any spouse of a lineal descendant.

You’ll notice that this is a pretty small list.  Let’s use me as an example: the disqualified persons to my CheckBook IRA LLC would be: me, my wife, my parents, grandparents, and my children and their spouses; my grandchildren and their spouses would also be disqualified persons, but I don’t have any ?

So, now we know that any deal or transaction between those parties and the CheckBook IRA LLC is a prohibited transaction.  Something I’ve been telling my clients to do for years is to take a 3×5 card and write down the names of all the people that appear in the preceding section.  Now all you have to do is look at that card and ask yourself if any one of those people are involved in the deal you intend to do with the IRA LLC.  If the answer is no, you’re in the clear.

Actually you’re not in the clear…not quite yet.  On the other side of that 3×5 card, you’ll need to write down any prohibited entities, which is the subject of Part III.

Prohibited Transaction Rules, Part I: An IRA LLC Primer

Prohibited Transaction Rules, Part III: Disqualified Entities

Prohibited Transaction Rules, Part IV: IRA LLC Examples

Invest intelligently.  Enjoy the rewards.

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    10 Comments

    1. Gerard Davis

      Would my brother be a prohibited party? Could I loan money to his company?

      • CheckBook IRA - Jordan

        Hi Gerard,

        Your brother is not a prohibited party, so your IRA LLC could loan money to him. If you want to loan money to his company, you’ll need to make sure that his company isn’t a prohibited entity. If he owns the thing outright, then your IRA LLC can loan to his company. If there are other owners of his company, you’ll need to make sure they are non-prohibited parties.

        If his company does have multiple owners, and if those other owners are prohibited parties, it can get tricky. I’ll be happy to talk over the transaction with you to make sure you’re on the right path. Feel free to contact me directly at [email protected] or (541) 749-0780.

    2. shawn

      What do the regulations say about Step-children or step-grandchilden. In today’s world of mixed families, I know this creates another gray area. Strangely enough, aunts, uncles, brothers, and sisters are not disqualified, but what about people who are non-blood/non-dependents, such as step-children?

      Thank you!

      Ps- With a checkbook IRA, I thought I read somewhere that a non-qualified person could be the manager of the LLC?

      • Jordan Sheppherd

        Shawn,

        The statute identifies family members as being lineal descendants, but does not include step-ancestors, collateral relatives (brothers and sisters, nephew, nieces, cousins, etc…) or their spouses. I would avoid doing anything with step-children, especially if they are young. If they’ve been legally adopted by you, it seems they would be considered lineal descendants.

        There’s nothing specific on the subject of step-children that I’m aware of, so I would urge you err on the side of caution.

    3. Rich McCartt

      Can the IRA+LLC invest in a Home Renovation company and that company buys real estate property from a company my daughter works at? Can the daughter be a listing agent that sells to Home Renovation company?

      Not sure if this is grey area or not – but thought I would ask.

      Rich

      • Jordan Sheppherd

        Hey Rich,

        I would stay away from that sort of thing. It might be possible, but generally its best not to muddy the waters with that sort of thing. It would depend on who owns the Home Renovation company, and how the funds are handled as they’re used to buy a property and then have it listed for sale. Feel free to call me to discuss at greater length.

    4. Jorge Miranda

      I own a parcel land and I wish to build a home on it for business purposes / rental. Could I purchase it with the checkbookira as an LLC and start to rent the property and have the funds go directly to the LLC or checkbookira.

      • Jordan Sheppherd

        Hi Jorge,

        Unfortunately your IRA LLC could not have anything to do with the parcel of land, because it is owned by you. You cannot sell or lease or rent the parcel to your IRA LLC, because you are a prohibited party. Any dealings you have with the IRA LLC would be prohibited.

    5. Randy Kirsch

      Can I purchase a home, and then turn around and rent it to my son – at fair market value, and for a profit equal to what I would rent to a non-relative?

      • Alisha Bennett

        Hi Randy, Unfortunately, your son is a prohibited party; so renting to him, even using fair-market rates, would be a prohibited transaction.