The ability to invest retirement funds in a newly established special purpose entity owned 100% by an IRA and managed by the IRA holder has been deemed legal by the Tax Court and IRS for over 18 years. However, only until recently, did the Tax Court confirm that the use of a newly established limited liability company (“LLC”) wholly owned by an IRA and managed by the IRA holder would not trigger a prohibited transaction. On October 2013, the Tax Court in T.L. Ellis, TC Memo. 2013-245, Dec. 59,674(M) (“TC Memo 2013-245”) held that establishing a special purpose limited liability company (“LLC”) to make an investment did not trigger a prohibited transaction, as a newly established LLC cannot be deemed a disqualified person pursuant to Internal Revenue Code Section 4975.
The legality of the Checkbook IRA structure has not come under question since the IRS conceded that investing IRA funds in a wholly owned entity is not a prohibited transaction in the U.S. Tax Court case Swanson V. Commissioner 106 T.C. 76 (1996). The IRS later confirmed the ruling in Swanson by releasing IRS Field Service Advice Memorandum 200128011 (“FSA 200128011”).
The Debate is Finally Over – TC Memo 2013-245 Sets the Record Straight on the Legality of the Checkbook IRA
The impact of TC Memo 2013-245 is enormous because it directly supports the position that a retirement account can fund a newly established LLC without triggering a prohibited transaction. TC Memo 2013-245 is decisive because it will silence anyone who claims that using a special purpose LLC to make IRA investments would trigger a prohibited transaction and is not permitted by the IRS.
The “Checkbook Control” IRA structure is a tax court and IRS approved retirement solution. The legality of the structure is unquestioned as it has been recognized by the U.S. Tax Court in Swanson v. Commissioner and later confirmed by the IRS in Field Service Advice Memorandum 200128011 and most recently by TC Memo 2013-245. In many respects the Tax Court’s ruling in TC Memo. 2013-245 is more important than the Swanson ruling and IRS advisory opinion. Firstly, TC Memo. 2013-245 is the first case that directly reinforces the legality of using a newly established LLC to make IRA investments without triggering an IRS prohibited transaction.
When establishing a “checkbook control” IRA structure, it is crucial that one works with a tax attorney or a company operated by tax professionals who can establish a “checkbook control” IRA solution that fully complies with IRS rules. As discussed in Swanson and later affirmed in the IRS advisory opinion as well as in TC Memo 2013-245, a correctly established “checkbook control” IRA will not be considered a prohibited transaction. While an IRA custodian is required to establish a “checkbook control” IRA solution, an IRA custodian is not allowed to offer legal advice on whether an
IRA transaction is prohibited, the very issue the IRS focuses on. TC Memo. 2013-245 demonstrates the importance of working with specialized tax professionals who have the necessary expertise regarding the IRS prohibited transaction rules before establishing a self-directed IRA “checkbook control” structure. If Mr. Ellis has worked with a trained tax professional to establish his “checkbook control” IRA LLC, he would have been told that he could establish a checkbook IRA to make investments, but he would not be permitted to receive a salary from the IRS owned entity.