What to do if you find you have a worthless asset in your SDIRA

What to do if you find you have a worthless asset

in your self-directed IRA

by Kaaren Hall, President, uDirect IRA Services

www.uDirectIRA.com

 

From time to time the investments our account-holders make go bad.  It happens.  Risk is always a part of investing.  When this happens what should you do?

 

It’s not just a matter of sending an e-mail to your custodian saying the asset has no value.  The IRS is going to want proof that the asset is valueless and your IRA custodian cannot determine the value of your assets.

 

We had an account holder (we’ll call him Fred) with such an asset.  He made a note and the note went bad.  After quite some time (and after receiving no account fees from him) we advised Fred we would distribute the asset to him and close his account.  Truth is, he wanted the account closed so this seemed to solve a problem for him, but the problem was not solved.

 

The rules are clear:  assets must have a fair market valuation when taxable events occur. To get this kind of valuation you need to seek the help of a valuator.  If the asset is real estate then often an appraisal will do.  In lieu of this kind of third-party authenticated value all we can reasonably do is use the last known value.  Keep in mind that the valuator needs to be “independent”.  Using your personal CPA for the valuation is usually not considered to be independent enough.  Additionally the report itself must have supporting documentation and computations attached to the report.

Fred did not want to pay the $500 fee to the valuator to have the situation properly handled.  He put himself in a very bad position by not spending the money. The IRS will likely send him a nasty letter telling him that he owes taxes (because assets were distributed and 1099'd at the last known value). Then when Fred calls the IRS, they will tell him to have the custodian correct the 1099. We won't correct the 1099 because of no valuation (and in this case no fees). The IRS is likely to not take his "word" for what the value currently is. In fact they likely will not care because of crossing tax years. They will tell our account holder to prove it was worthless back at the time it was distributed.  That usually requires foreclosure/court documents or a valuation.

So, Fred gets caught in this endless loop.

Bottom line is that this is the cost of doing business with a self-directed IRA. In fact, we include this information on the account agreement.

In the end he will wish he had spent the $500 for valuation.

 

After I explained this our account-holder said, “Thanks so much Kaaren, that was quite helpful. If there's any way you could resend the name of the company you use for proving a zero value I'll get on this on get everything wrapped up. I'm so sorry for the trouble and the delay.”

 

Any time there is a taxable event in your IRA such as a Roth conversion or a withdrawal the IRS is going to want proof of the asset value.  A good valuator is a self-directed IRA’s best friend.