The duties of a self-directed IRA custodian ("Custodian") are very limited, and include setting up your self-directed IRA account "(SDIRA"), ensuring assets are titled correctly, processing your instructions as directed, issuing periodic statements and fulfilling the IRS reporting requirements. An IRA custodian is not supposed to advise you on investments or profit in any way from the investment decisions you make. It is estimated that U.S. investors hold over $94 billion of investments in SDIRAs! Therefore it is not surprising that SDIRAs are attractive to fraud promoters. Understanding the limited responsibility of Custodians is key to avoiding scams and con artists who take advantage of the lack of regulatory scrutiny of SDIRAs to promote their investment schemes.
A Custodian is not responsible for providing verification of the value of an investment. So the Custodian may base the investment value on the original purchase price, the purchase price plus any returns reported, or some other value. In the case of fraudulent investment schemes, the fraud promoter will generally provide the value to the Custodian. However, victims/investors in SDIRAs should be cognizant of the fact that these investment valuations likely have no real relationship to the actual value.
Another little known fact is that assets held by a Custodian are not FDIC insured unless they are CASH! The Custodian has no duty to provide insurance on assets such as promissory notes, real estate or stocks. Many times a fraud promoter will falsely advise a victim/target that their investment in a SDIRA is "fully insured." However, nothing could be further from the truth. Since a SDIRA is meant to permit investment in non-traditional investment vehicles such as liens or mortgages, it is highly unlikely most investors would ever have cash in their account. So the fact that such "insurance" is offered is an illusory sales ploy by the fraud promoter to garner the trust of the victim/target.
But what are Custodians legally expected to do? At the very least the Custodian is expected to maintain accurate records of the investment account, maintain documentation providing proof of ownership of all assets and make sure that all investments held in the SDIRA comply with IRS requirements. It is clear from the multitude of class action lawsuits involving the use of SDIRAs by fraud promoters to perpetuate Ponzi schemes that Custodians often fail to perform their contractual and fiduciary duties thereby aiding and abetting the fraudulent enterprise.
The repeated pattern of fraud promoters insisting on the use of only certain Custodians is probably due to the fact that the fraud promoter is aware of the lax contractual and regulatory compliance of the Custodian. The failure by the Custodian to comply with its own stated legal and regulatory responsibilities, which otherwise would expose a fraudulent investment, enables the fraud promoter to facilitate large scale investment schemes with little chance of detection. Thus the fraud promoter is able to utilize their Custodian of choice both to create credibility and hide the fraudulent investment scheme.
Until the federal government addresses the regulatory void in this area, fraudsters will continue to utilize SDIRAs to steal from innocent, inexperienced investors. It is up to the victims/investors of fraud utilizing SDIRAs to raise their voice and insist upon changes to the law increasing both the regulatory scrutiny and the responsibilities of Custodians. Until then, Custodians remain an accomplice to virtually any type of investment fraud.