• Briefly Noted
  • Regulators Warn About Self-Directed IRAs

    A recent increase in fraudulent investment schemes involving self-directed individual retirement accounts IRAs has caught the attention of regulators. The North American Securities Administrators Association NASAA is seeing a rise in reports and complaints. Similarly, the Securities and Exchange Commission SEC has brought numerous cases over schemes that directed investors to self-directed IRAs.

    A self-directed IRA is an account that allows you to invest in assets that are not publicly traded. These investments can include real estate and non-traded stock. In contrast, in a traditional IRA, which is typically held at a well-known brokerage firm or mutual fund family, investments are restricted to publicly traded stocks, exchange-traded funds, mutual funds, bonds and annuities.

    For both types of accounts, the types of investment options are determined by the account’s custodian. The Internal Revenue Service requires that all IRAs be set up with a trustee or custodian that is a bank, a federally insured credit union, a savings and loan association, or “an entity approved by the Internal Revenue Service IRS to act as a trustee or custodian.”

    The role of custodians is to facilitate the account and its transactions, not to evaluate investments or an investment’s promoters. This is typically not a problem for traditional IRAs, since the securities and funds are under regulatory oversight and an active market exists for them. Self-directed IRAs, however, may make investments in securities and partnerships that have not undergone any regulatory oversight. The financial statements for these investments may never have been audited by a third-party accounting firm. Compounding the risk is the lack of an active market with frequent price quotes, making it difficult to determine what a non–publicly traded investment is actually worth.

    Criminals use these factors to coax unknowing investors. Promoters tout strong returns and deceivingly claim that an investment is safe. Furthermore, investors may mistakenly believe the custodian has evaluated the legitimacy of an investment, when no such research has been done. It is not unusual for a criminal to direct a potential victim to a specific custodian.

    If you are considering a self-directed IRA, ask questions and do your research. Unsolicited offers should be particularly scrutinized. Be wary of “guaranteed” returns, promises of strong returns and low risk, or high sales pressure. Finally, do a regulatory background check before working with a new advisor or moving your account to a new firm or custodian.

    Source: “Self-Directed IRAs and the Risk of Fraud,” NASSA and SEC Investor Alert.


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