5 Mistakes to Avoid When Using a Self-Directed IRA for Private Lending

Self-directed IRAs (SDIRAs) open the door to real estate, private lending, and other alternative assets that aren’t available in traditional retirement accounts. But with that flexibility comes responsibility.

At LBC Capital Income Fund, LLC, we regularly work with investors using SDIRAs to earn passive income through private debt. And while the strategy is powerful, it comes with a few easy-to-miss pitfalls—mistakes that can lead to tax penalties, compliance issues, or poor investment outcomes.

The good news? Every one of them is avoidable if you know what to look out for.

Whether you’re just getting started or you’ve already opened an SDIRA, here are the five biggest mistakes to avoid when using your self-directed IRA for private lending—and how to do it the right way.

🚫 Mistake 1: Lending to Disqualified Persons

The IRS has strict rules on who your IRA can and can’t do business with.

You’re not allowed to lend money—or make any investment that benefits—a “disqualified person.” This includes:

• Yourself
• Your spouse
• Your parents or grandparents
• Your children or grandchildren
• Any company you own more than 50% of
• Anyone who provides services to the IRA (e.g., your custodian)

Example: You can’t lend your IRA funds to your son to buy a rental property. Even if he pays you back, the IRS considers that a prohibited transaction—and it could trigger a total distribution of your IRA (plus taxes and penalties).

✅ What to do instead: Only lend to third parties with no family or ownership ties. Work with an experienced custodian and fund that understands these boundaries.

🚫 Mistake 2: Personally Guaranteeing the Loan

Here’s a lesser-known rule: you can’t personally guarantee any investment made by your IRA.

In traditional lending, a borrower often provides a personal guarantee. But in an SDIRA structure, you as the account holder cannot personally co-sign, guarantee, or otherwise support the investment with your own credit or funds.

Doing so would count as providing a personal benefit to your IRA—another prohibited transaction in the eyes of the IRS.

✅ What to do instead: Use non-recourse lending structures or invest through a fund (like LBC Capital Income Fund, LLC) that structures and services loans without requiring any personal involvement.

🚫 Mistake 3: Choosing the Wrong Custodian

Not all IRA custodians support alternative assets like private lending. Some offer only a limited “self-directed” experience (read: limited to ETFs or mutual funds), while others lack the experience to handle real estate debt documentation properly.

Choosing the wrong custodian can lead to:

• Delays in funding
• Inaccurate reporting
• Prohibited transaction risks
• Headaches during tax season

✅ What to do instead: Work with a custodian that specializes in SDIRAs with private debt, real estate, and alternative asset experience. Reputable firms include STRATA Trust, Entrust Group, Equity Trust, and Advanta IRA.

Need help finding one? We’ll introduce you.

🚫 Mistake 4: Using an IRA That Doesn’t Fit Your Strategy

Different IRA types come with different tax benefits and restrictions. If you’re not careful, you could miss out on long-term advantages—or worse, make early withdrawals and get penalized.

Traditional IRA

• Pre-tax contributions
• Tax-deferred growth
• Taxes owed when you withdraw in retirement

Roth IRA

• After-tax contributions
• Tax-free growth and withdrawals (if qualified)

Solo 401(k)

• For self-employed individuals
• Higher contribution limits
• Can be self-directed too

SEP IRA

• Great for small business owners
• Tax-deferred growth
• Easier setup than 401(k)s

✅ What to do instead: Match your account type to your goals. Want tax-free growth for decades? Go Roth. Want to defer income and lower current tax bills? Traditional may work better. Already have a large account? Roll it into an SDIRA and get started.

🚫 Mistake 5: Treating Private Lending Like a DIY Project

Private lending is simple in concept: you lend money, get interest, and protect it with collateral. But in practice, it requires:

• Underwriting
• Legal documentation
• Lien perfection
• Loan servicing
• Recovery processes in case of default

Doing it all yourself—from sourcing borrowers to filing foreclosure documents—isn’t just time-consuming. It’s risky.

We’ve seen DIY lenders misprice risk, fail to perfect their liens, or lend to shaky borrowers—all of which can erode or eliminate returns.

✅ What to do instead: Invest through an experienced fund like LBC Capital Income Fund, LLC, where the loans are:

• Professionally underwritten
• First-lien, asset-backed
• Diversified across borrowers and geographies
• Managed and monitored by a seasoned team
• Structured for monthly income—without added work

Bonus Mistake: Letting Cash Sit Idle

This one’s simple, but common. After transferring money to your SDIRA, some investors let it sit in cash for weeks—or even months—because they’re unsure of what to invest in.

But in retirement planning, time is everything. Every month your capital sits idle, it’s not earning, compounding, or working toward your future goals.

✅ What to do instead: Have a plan before you transfer funds. Choose a fund that offers regular distributions and supports SDIRA investments, so your money can start earning quickly.

A Smart Strategy—Done the Smart Way

Using a self-directed IRA for private lending can be one of the most effective ways to grow your retirement income while protecting capital. But like any powerful tool, it needs to be used carefully.

Avoiding these common mistakes helps you:

• Stay compliant
• Keep more of your income
• Sleep well knowing your capital is secure

At LBC Capital Income Fund, LLC, we’ve guided many investors through this process. We know the rules, we know the pitfalls, and we know how to help your retirement capital work harder—without adding complexity to your life.

Interested in using your SDIRA to invest in first-lien real estate debt?
We’ll walk you through every step, help you connect with a qualified custodian, and show you how monthly passive income fits inside your long-term plan. Book your call with fund manager.