The importance of thorough due diligence before investing. – American Estate & Trust

Investing in alternative assets through a Self-Directed IRA (SDIRA) offers unique opportunities for portfolio diversification and potential financial growth. However, these investments also come with risks, particularly concerning fraud and regulatory compliance. Conducting thorough due diligence before making an investment is essential to safeguarding your retirement funds and ensuring compliance with IRS regulations.

Why Due Diligence Matters

Unlike traditional IRAs that focus on publicly traded stocks, bonds, and mutual funds, SDIRAs allow investments in alternative assets such as private equity, real estate, cryptocurrency, precious metals, private loans, and tax liens. While these options provide greater investment flexibility, they also require greater investor responsibility.

As a passive, non-discretionary custodian, American Estate & Trust (AET) does not evaluate, recommend, or conduct due diligence on investments. It is the account holder’s responsibility to verify the legitimacy, compliance, and financial soundness of an investment before proceeding.

Key Steps for Effective Due Diligence

1. Verify the Legitimacy of the Investment

Before committing funds, research the investment opportunity and the parties involved. Consider the following:

Company Background: Check the company’s registration status with regulatory agencies such as the SEC (for securities) or state business registries.
Investment Sponsor Reputation: Look for any history of fraud, lawsuits, or disciplinary actions by searching online databases like FINRA’s BrokerCheck or the SEC’s EDGAR database.
Track Record: Review the sponsor’s past investment performance and financial disclosures to assess credibility and experience.

2. Analyze Investment Terms and Conditions

Review the Offering Documents: Carefully examine subscription agreements, operating agreements, private placement memorandums, and promissory notes.
Understand Fees and Expenses: Hidden fees or excessive charges can erode investment returns.
Evaluate Exit Strategies: Ensure that you understand liquidity options, redemption terms, and potential penalties for early withdrawal.

3. Confirm Compliance with IRS Regulations

Prohibited Transactions: Ensure the investment does not involve disqualified persons (such as yourself, your spouse, or certain family members) or violate IRS rules under IRC Section 4975.
Unrelated Business Taxable Income (UBTI) and Unrelated Debt-Financed Income (UDFI): Some investments, such as leveraged real estate or operating businesses, may generate taxable income within the IRA.
Fair Market Valuation Requirements: Investments held in an SDIRA must be reported at their fair market value (FMV) annually. Ensure that you can obtain proper valuation documents.

4. Assess the Risk and Return Profile

Market Conditions: Investigate industry trends, economic factors, and competitive landscapes that may impact investment performance.
Fraud Indicators: Be cautious of investments that promise guaranteed returns, lack transparency, or pressure you to invest quickly without time for research.

5. Seek Professional Guidance

Legal Review: Have an attorney review legal documents to ensure compliance and protect your interests.
Tax Consultation: Consult with a tax professional to understand the implications of your investment, including potential tax liabilities.
Financial Advisor: Engage a financial expert to evaluate whether the investment aligns with your retirement goals and risk tolerance.

AET’s Role as a Passive Custodian

AET facilitates SDIRA investments but does not:

Conduct due diligence on investments or sponsors
Endorse or recommend specific investment opportunities
Provide legal, tax, or investment advice
Ensure investment profitability or regulatory compliance

All investment decisions rest solely with the account holder. It is the investor’s responsibility to perform due diligence and seek expert advice as needed.

Red Flags to Watch For

Unverified or missing documentation
Pressure to invest quickly
Promises of high returns with little or no risk
Lack of financial transparency
History of regulatory violations or lawsuits

Conclusion

Thorough due diligence is crucial when investing through an SDIRA. By researching and verifying the legitimacy of investments, reviewing regulatory requirements, and seeking professional guidance, investors can mitigate risks and protect their retirement savings. AET is committed to providing a compliant and efficient custodial platform, but it is up to each account holder to make informed investment decisions.