Regulators warn about self-directed IRAs

State and federal securities cops have put out an investor alert on self-directed individual retirement accounts, warning that the unwary could be lured into fraudulent schemes masquerading as alternative investments.

The alert was released jointly on Friday by the Securities and Exchange Commission and the North American Securities Administrators Association, coinciding with an increase in complaints tied to schemes that used self-directed IRAS.

Self-directed IRAs are held by trustees or custodians that permit investors to use a broader array of assets compared to most other IRA custodians, such as banks or broker-dealers. For instance, these vehicles can invest in life settlements, real estate, limited partnerships and private placements — all of which have unique risks and can be illiquid.

NASAA estimates about $94 billion are in self-directed IRAs, making up about 2% of the total $4.7 trillion in all IRAs.

Fraudsters have been exploiting self-directed IRAS because clients can hold unregistered securities, and the custodians of the accounts likely haven’t performed the due diligence on the offerings, according to regulators. And, since there’s a penalty for making early withdrawals from an IRA, investors in a scheme might actually be encouraged to keep the money in the account even longer.

NASAA and the SEC encouraged investors to be wary of unsolicited investment offers, to check whether the proposed investments are registered, to be mindful of guaranteed returns and to consult either a licensed unbiased professional or a lawyer for a second opinion.

Regulators, arbitration panels and judges have typically taken a hard stance on schemes based on self-directed IRAs, given the amount of time it’s taken an investor to accumulate the money in the vehicles, noted plaintiff’s attorney Andrew Stoltmann.

“Typically, it’s taken many years to build up IRA money, and you can’t take a deduction for the losses,” he said. “Advisers are held to a higher duty when they’re managing tax-qualified money, and in terms of merits, cases involving IRAs are very good cases.”

He says the biggest surge of cases in recent memory is tied to the Medical Capital Holdings Inc. and Provident Royalties private placement debacle. “Those were allowed to be recommended into IRAs, and we saw hundreds of millions of dollars wiped out in self-directed IRAs and fraudulent private placements.”