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What happens if the IRA administrator or custodian goes bankrupt?


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6 replies to this topic

#1 sysman

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Posted 21 October 2008 - 06:50 PM

What would happen if, heaven forbid, either the administrator or custodian bank of an IRA went bankrupt? Would the individual IRA-holder be at risk of loss due to the bankruptcy?

Would if matter if the IRA held private investments (as a self-directed IRA), such as a hedge fund or partnership investment, rather than marketable securities?

Thanks in advance for any replies.

Edited by sysman, 21 October 2008 - 06:53 PM.


#2 J Simmons

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Posted 21 October 2008 - 09:47 PM

Here is one source of info you might want to review. It explains that there is $250,000 of FDIC coverage.
John Simmons
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Note to Readers: For you, I'm a stranger posting on a bulletin board. Posts here should not be given the same weight as personalized advice from a professional who knows or can learn all the facts of your situation.

#3 sysman

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Posted 22 October 2008 - 09:21 AM

Here is one source of info you might want to review. It explains that there is $250,000 of FDIC coverage.


Thanks, John, but in this case the IRA is well over $250k, and consists primarily of an investment into a privately offered hedge fund. The IRA administrator tells me that if the IRA custodian bank went bankrupt, "a new custodian would be appointed". That is their claim, but it isn't clear to me that the admin would have the legal power to do that if the custodian has already gone bankrupt.

#4 J Simmons

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Posted 22 October 2008 - 09:42 AM

Could you 'subdivide' the hedge fund investment into multiple IRAs at different financial institutions so that you have no more than $250k in anyone institution?

Who is the IRA "admin" that is different from the custodian? What, if anything, does the IRA custodial agreement provide in the event the custodian is no longer able to function as such?
John Simmons
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#5 John G

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Posted 22 October 2008 - 11:35 AM

Some of the material in this thread uses loose language, so its hard to know exactly what is going on.

Here is my 2 cents.

1. Banks are regulated in the US by the government. When a bank goes bankrupt, generally the government tries to find another bank that will take over the business, sometimes offering sweeteners or other inducements. It is highly unlikely that a bank goes BK and just disappears.

2. IRA administrator and IRA custodian seems to me to be the same person. How can you talk to the IRA administrator at a bank, but not be able to talk with the custodian dept?

3. A hedge fund is typically an "outside investment" only allowed by some custodians to "sophisticated investors" or "qualified investors" (these are legal terms defined by statute or regulation based upon recent annual income and total assets) by a few IRA/Roth custodians. Hedge funds vary substantially in how they are constructed and operate, so generalizations might not match this specific fund. Hedge fund investments are not going to be covered by FDIC, but some of their cash might be in an institution that has some limited FDIC or SIPC insurance coverage on a fund basis, not individual basis. Typically the threatened bank is one entity and the hedge fund is something completely different (most likely clearing trades via some brokerage). {My wife has an IRA and Roth at Fidelity and has part of her funds in a hedge fund. Fidelity doesn't just accept any hedge fund, they have a review/authorization process. Fidelity does not do transactions for the fund. They don't hold cash or other assets for the fund. The hedge fund periodically reports data on assets to Fidelity. They send us emails and letters monthly.}

Given the turmoil in the stock market, you might have a bigger issue with a potential hedge fund failure rather than a bank failure. Because hedge funds operate under a complicated "high water mark" system that effects compensation, many hedge funds with paper losses may elect to close and dispurse funds. This could be tricky if your custodian status is also in turmoil.

#6 sysman

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Posted 22 October 2008 - 12:45 PM

John and John,

Thank you for your help. Let me try to flesh out a few things:

-Banks and bankruptcy. I had read in the WSJ that in the limited number of bank failures already, in some cases no bank came in to acquire the deposits, and people that had on deposit more than the FDIC limits actually lost money. (I mean normal savings/checking accounts...I don't know what happened to IRAs in those cases...that's kind of what I'm trying to figure out.)

-Insurance. As far as I can tell, FDIC insurance applies only to cash deposits. SIPC covers securities, but not private investments (such as a hedge fund). So, for the purposes of this discussion, where the vast bulk of the IRA is invested in a fund of hedge funds, I don't think insurance applies.

-Administrator vs Custodian. In this particular case, these are separate. The IRA admin is Polycomp Administrative Services, and they then place an IRA at one of several different custodian banks, such as First Commerce Bank or California National Bank.

In any event, one of you suggested I look into the actual custody agreement, which I think I'll have to request from the admin, since I think that would be between them and the custodian. But it is a very good idea to do so and what I'll be doing next.

Edited by sysman, 22 October 2008 - 12:46 PM.


#7 Guest_named_mjb_*

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Posted 22 October 2008 - 07:11 PM

IRA assets are held by a custodian for the beneficial interest of the IRA owner, not the custodian, because the owner is 100% vested in the IRA assets. If the IRA assets are invested in bank CDs then the assets are insured to the extent of the FDIC limit. If the asset are invested in other property then the IRA owner has the right to transfer the assets because assets held in the custody of an entity that declares bankruptcy are not assets that are subject to the claims of the bankrupt entity's creditors (since IRA assets cannot be pledged to creditors as assets of the custodian). Under federal bankruptcy law banks cannot declare bankruptcy.