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Someday a stranger, or even someone you think you know well and trust, may offer you a “can’t miss” investment opportunity promising “high returns” with “little or no risk,” to be owned and held in your self-directed Individual Retirement Account.
Run the other way.
All IRA accounts are held for investors by custodians or trustees, typically a bank, trust company or broker-dealer. Custodians of conventional IRAs usually limit the holdings in IRA accounts to firm-approved stocks, bonds, mutual funds and CDs.
Conversely, custodians of self-directed IRAs will permit a broader universe of investments, such as real estate and unregistered securities. Because it is unlikely the custodian will investigate whether the unregistered security or promoter is legitimate, you can see why fraud promoters love self-directed IRAs.
In response, the Securities and Exchange Commission and the North American Securities Administrators Association (Indiana Securities Commissioner Chris Naylor is a board member) issued a joint investor alert in September 2011, “Self-Directed IRAs and the Risk of Fraud,” which can be found on the SEC’s investor.gov website.
The alert lists three areas a fraudster can exploit:
Fraud promoters can misrepresent the responsibilities of the custodian by stating or suggesting the custodian validates the investment and promoter. This is almost never the case.
Since there is the same early withdrawal penalty as with other tax-deferred retirement accounts, investors might be induced to keep funds in a fraudulent scheme longer.
Unregistered securities might have comparatively little readily available information needed to make a prudent decision.
To avoid fraud:
Understand that custodians often list the value of alternative investments as the original purchase price or a price provided by the promoter, neither of which might reflect the price at which the investment could be sold, if at all.
Ask if the person offering the investment is licensed and whether the investment is registered or exempt by statute from registration. Go to the “Education” tab at sec.gov or the Indiana Securities Division website at in.gov/sos/securities.
On Aug. 23, the SEC charged John K. Marcum of Noblesville with defrauding at least 37 investors of more than $6 million in a Ponzi scheme. Marcum allegedly told potential investors he could earn big returns day-trading stocks and that their principal would be guaranteed. According to the complaint, Marcum assisted many of his investors in setting up self-directed IRA accounts at several trust companies and provided them with fictitious statements indicating annual returns of 20 percent or more, with no monthly losses.
The SEC charged what little trading Marcum did was unsuccessful. Further, that Marcum used the investors’ money as collateral for a line of credit that was used to finance several start-up businesses, including a bridal store, a bounty hunter reality TV show and a soul food restaurant operated by the bounty hunters.
Marcum also is accused of using more than $500,000 of investor funds on personal expenses, including $50,000 to Mercedes-Benz and $28,000 to Drai’s Hollywood nightclub.
Naylor said: “The Secretary of State’s Office has investigated a number of cases where con artists convince victims to roll their retirement savings out of traditional retirement vehicles into a self-directed IRA, which is then used in an attempt to lend credibility to the scheme or mask a fraudulent scheme.
As with every investment, investors should do their homework, verify their account statements, avoid unsolicited investment offers and beware of ‘guaranteed’ returns.”
Mickey Kim is the chief operating officer and chief compliance officer of Columbus-based investment adviser Kirr Marbach & Co. He can be reached at 376-9444 or email@example.com.
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