Has my Self-Directed IRA been “invalidated”?

Question:

Dear Mr. Long,

You are probably going to receive quite a few emails on this subject today.  An “IRA Expert” Tax Attorney (Tim Berry) gave a webinar last night stating that most IRAs (99%) have engaged in a “prohibited transaction” causing them to lose their tax-deferred IRS status and be deemed “fully distributed!”

Naturally, this news was quite disconcerting.  The “prohibited transaction” being an extension of credit between the IRA and a “disqualified person.”  This sentence in the IRA Application is the supposed culprit:

“I agree to release, indemnify, defend and hold the Administrator and/or Custodian harmless from any claims, including, but not limited to, actions, liabilities, losses, penalties, fines and/or third party claims. ansing out of my account and/or in connection with any action taken in reliance upon my written instructions, designations and representations, or in the exercise of any right. power or duty of Custodian and/or Administrator, its agents or assigns.”

By signing the application containing the word “indemnify,” it does seem that I have extended credit on my IRA to a disqualified person, ie: Quest IRA, Inc. as custodian.  Apparently, there was a ruling from the Department Of Labor dated October 2009 clarifying that this is considered a “personal guarantee.”

As an attorney, I hope you are aware of this issue.  The status of my IRA is of great concern and I need to have this issue clarified.  I realize that the attorney giving the webinar was trying to scare us and it worked!  For $1,995 he will go to the IRS, request clemency and get clients’ IRA accounts “re-validated.”  Seems like a bargain considering the taxes and penaties can be up to 60% of the account’s value.  He also stated that the custodian firms were liable for bringing accounts back into compliance.

Please let me know your thoughts on this as soon as possible.  I look forward to hearing from another attorney’s point of view.

Answer:

Thank you for your email.  I understand your concern, but the ruling that is the basis of these claims is NOT the same facts as we have here at Entrust.  If you read the full sentence below, you will clearly see that you are only indemnifying the Administrator against any of your own written instructions, etc.  In other words, all the sentence you refer to says is that if you instruct us to take some action then you cannot turn around and blame us for following your instructions.  I have attached the actual ruling which I believe forms the basis of the statements by Mr. Berry and others.  Read the clause being referred to as the problem.  It has to do with granting a security interest in all accounts held by that individual at the brokerage firm.  Specifically, the language reads:

“All securities and other property now or hereafter held, carried or maintained by us in our possession or control, for any purpose, in or for the benefit of any of your Accounts, now or hereafter opened, including any Account in which you may have an interest, shall be subject to a continuing first lien and first priority perfected security interest in favor of us for the discharge of all indebtedness and your obligations to us, and are to be held by us as security for the payment of any liability or indebtedness of yours to us in any of your accounts.

You authorize us the right to transfer securities and other property so held by us from or to any other of your Accounts held by us, whenever, in our judgment, we consider such transfer necessary for our protection… .”

As you can see, the situation described in the Opinion Letter is not even close to the situation here at Entrust.  Unlike in the brokerage application, you are not granting a security interest in your account to us or extending your credit in any way to your IRA.  Since Quest IRA, Inc. does not handle any accounts other than IRAs, and since the language in our application clearly does not grant a security interest in your IRA for payment of any liability or indebtedness of yours, the ruling should not apply to your IRA at Entrust.

Other facts which you should be aware of when considering Mr. Berry’s offer include the fact that Advisory Opinion letters from the Department of Labor only apply to the person asking for the ruling.  It is not legal precedent, but rather an interpretation based on the particular facts represented to the Department of Labor for that situation.

Finally, if you step back and think logically about what is being represented by Mr. Berry and others, do you honestly think that the lobbyists for the retirement industry and the politicians would allow the IRS to declare millions of IRAs to be invalidated?  This person is attempting to sell you a “service” that is not necessary, at least in your situation.  If anything, the solution to the problem of the language would be a company-wide one for each custodian, not a case by case solicitation of a prohibited transaction exemption.  It is interesting that all of a sudden Mr. Berry and others are attempting to be so helpful when the ruling has been out since October of 2009.  Have you heard news stories of the IRS sweeping in and declaring millions of IRAs invalid in the last year and a half?  I haven’t either.

Link: http://www.dol.gov/ebsa/regs/aos/ao2009-03a.html

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