Home Alternative Investments Self-Directed IRAs Carry Risks, Regulators Warn

Self-Directed IRAs Carry Risks, Regulators Warn


Investors and their advisors should be wary of self-directed IRAs, which are riskier than conventional IRAs, according to three regulatory and consumer protection agencies that issued an investor alert yesterday.

Self-directed IRAs often include investments that carry added risk not found in more mainstream investments, the alert said. They are often less transparent and less liquid, and they are sometimes taken advantage of by fraudsters. They often have higher fees.

The alert was issued by the North American Securities Administrators Association, the SEC’s Office of Investor Education and Advocacy, and the Financial Industry Regulatory Authority.

Self-directed IRAs offer the holder tax benefits, like other IRAs, but they also come with dangers that regular IRAs avoid, the alert said. Self-directed IRAs allow a wider variety of investments, including real estate, private placement securities, precious metals and other commodities, and crypto assets, and these can present risks to the investor.

To avoid fraud or investments outside their risk tolerance, investors should consult with a financial or legal professional before setting up these accounts, the agencies said. Investors and their advisors should verify all information connected with these accounts, including the prices and asset values, with an independent source, and ask questions of the person offering the investments to make sure they are legitimate and registered with the proper agencies.

The alert added that investors should avoid unsolicited investment offers and be wary of sellers who offer guaranteed or risk-free returns, since all investments involve some risk.

Custodians for self-directed IRAs have a more limited role than those holding other types of

IRAs, the agencies warned. They do not check the accuracy of any financial information that is provided for the account, nor do they evaluate the quality or legitimacy of the investments.

“With a self-directed IRA, the investor has sole responsibility for evaluating and understanding the investments in the account,” the alert said. Regular IRA custodians limit the “holdings in IRA accounts to firm-approved stocks, bonds, mutual funds and CDs. Self-directed IRA custodians are only responsible for holding and administering the assets in the account,” nothing more.

The alternative investments allowed inside self-directed IRAs, meanwhile, may provide only limited financial disclosures. “Even when financial information for these alternative investments is available, it may not be audited by a public accounting firm,” the agencies said. Investors and advisors should check the amount of time an alternative investment must be held to see if there are extended hold periods, restrictions on redemptions, or limited markets.

The agencies also warned that fraudsters often take advantage of the lack of oversight that custodians provide for self-directed IRAs.

Fraudsters sometimes use fake custodians to attempt to steal money. Investors were warned in the alert to make sure the custodian is legitimate—that it’s a bank, trust company or any entity approved by the Internal Revenue Service to act as an IRA custodian.

There is also a possibility a fraudster will use a legitimate custodian to sell fraudulent investments.

Even if other aspects of the self-directed IRA check out, an investor needs to be prepared to comply with complex IRS tax rules that do not apply to other IRAs. If investors fail to follow these rules, they may run into unintended tax consequences, such as extra taxes, financial penalties or even the loss of their account’s tax-deferred status.

“Consult with a tax advisor before investing through a self-directed IRA to confirm that any potential investment or investment strategy follows these IRS rules,” the alert said.

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