Do You Know About The Plan Asset Rules?

The Plan Asset Rules, designed by our buddies at the Department of Labor, were made to limit you from using retirement funds to transact with your own investment fund or assets. They exist for ethical reasons. Of course, we know you're not unethical, but if they didn't exist, people could do all sorts of crooked things.
The Plan Asset Rules list the circumstances under which entity-owned assets can be considered to be owned by a 401k or IRA. There are, of course, exemptions.  
This is important to know because otherwise innocent business between Plan Assets and disqualified persons quickly becomes a prohibited transaction. This is naturally something you want to avoid. Unless you like giving the IRS money. For everyone else, here are the basics of the plan asset rules, how they affect your retirement investments, and how to avoid triggering them.

Plan Asset Rules: The Basics

The DOL’s Plan Asset Rules define when assets are considered ‘Plan” assets. IRAs are usually treated similarly to pension plans under the law. When a plan (or even a combination of plans) earns a certain percentage of a construct like an LLC, the whole she-bang can be treated as if it's entirely owned by the plan. This includes not only the assets, but different types of gains like interest.
The most important practical aspect of the Plan Asset Rules for most investors is the fact that these rules determine prohibited transactions. Plan assets play by different rules than other types of assets you may own. If you engage in a prohibited transaction, you will absolutely pay the price. Typically, this is in the form of a massive and unavoidable penalty.

Here are the circumstances where Plan Asset Rules can be triggered:

  • When all of an operating company is owned by IRAs, 401ks, disqualified persons, or any combination thereof.
  • When 1/4 of an investment company is owned by IRAs, 401ks, disqualified persons, or any combination thereof. To determine if the 25% threshold is met, all plan owners are taken into account. It doesn't matter if they are unrelated (or not disqualified persons).


How Do The Plan Asset Rules Impact My IRA/401k Investments?

The Plan Asset Rules are often only triggered if your IRA/401k assets will own greater than 25% of an investment company (such as a mutual fund or other form of passive investment) or will own ALL of an operating company (gas station).
Most investments involving IRA/401k assets should not become a prohibited transaction. Making a typical loan, buying a condo for yourself, or even purchasing nontraditional assets for your IRA entity should not bring Plan Asset Rules into play.  If they were triggered for some reason, you aren't necessarily doomed to pay the prohibited transaction penalty. Of course, this is only true if you aren't engaging in business with a disqualified individual.

Why You Want To Avoid Triggering Plan Asset Rules

If your retirement plan involves an investment in one of the following:

  • An “operating company” that is entirely owned by your IRA.
  • An investment company in which 25% of more of the “investment company” is owned by IRAs/401ks and disqualified persons. 

Then all assets of these types of companies are owned by the plan itself, meaning your IRA or 401k. Any exchange between the company types mentioned above, including assets owned by such companies, and a disqualified person is a prohibited transaction. Be aware that there are other types of prohibited transactions, but the Plan Asset Rules describe the most common type.

This may all seem abstract, particularly if you're new to retirement accounts in general or these rules in particular. Let's take a look at a couple of examples involving common situations that illustrate what the Plan Asset Rules look like in real life.

Plan Asset Rule Examples

Scenario One:

Your Self Directed IRA LLC invests in JP Morgan, which will purchase a gas station, an “operating company”. You pay yourself $70,000 per year for your role as the station's manager, because that’s hard work after all.
The payment of the salary would be a prohibited transaction.
Note: Any income generated by the gas business would probably be subject to UBIT Tax if it becomes part of your IRA LLC.

Scenario Two:

Barney the Dinosaur's Self-Directed IRA LLC owns 10% of I Love You,  LLC. Mr. Rogers’ IRA owns 20% of I Love You, LLC. Barney and Mr. Rogers are business partners not related by blood or marriage. In this case, their plans own a combined total of 30% of the company. 25% is the maximum allowed before Plan Asset Rules kick in. Since this is an "investment company," I Love You LLC's assets are owned by Mr. Rogers' and Barney's respective IRAs.   
So if I Love You, LLC makes a loan to Barney’s father, the loan would be a prohibited transaction. This isn't because of dinosaur-related discrimination. It's because Barney's dad would be disqualified from any transaction with his IRA. If I Love You, LLC is deemed a Plan Asset, the same rules apply.
Royal Legal Solutions is happy to assist you with forming, running, or investing with a retirement account. It's never too early or too late to start planning for the future. Call (512) 757–3994  or use our web tool to schedule your personal retirement consultation.

Last Updated: 
October 20, 2017

Scott Royal Smith is an asset protection attorney and long-time real estate investor. He's on a mission to help fellow investors free their time, protect their assets, and create lasting wealth.

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