What is an IRA Custodian?

An IRA custodian is usually a financial institution, such as a bank or a brokerage, entrusted with the responsibility of safeguarding the assets of a client's Individual Retirement Account (IRA). According to the rules set by the Internal Revenue Service (IRS), an IRA custodian must be an approved financial institution; an individual may not act as an IRA custodian. Non-financial institutions that wish to act as IRA custodians must first secure specific approval from the IRS.

The IRA custodian executes transactions on behalf of the client, keeps all necessary and appropriate records of all actions undertaken in the custodial capacity, and files any reports, such as statements and tax notices, required either by the custodial agreement or the law. It may also be responsible for distributing the IRA's assets in accordance with the client's instructions, and filing the appropriate paperwork. An IRA custodian is not required to give investment or legal advice, though, making it incumbent upon the client to make sure that all directions given to the custodian are compliant with the IRS code.

The assets of an IRA may be invested in a wide variety of securities and other financial instruments. Regulations prohibit the investment of IRA assets in collectibles such as art and rare coins, and in life insurance, but many other investments such as real estate, franchises, mortgages and tax liens, as well as many others, are permitted. Many financial institutions, however, will limit the type of investments they'll permit for IRAs in their custody. IRA owners who want the resources to be invested in real estate or other non-traditional investments must find and select an IRA custodian who will permit such investments. Thus, it would make sense for a real estate management company to seek IRS certification to become an IRA custodian for the purpose of managing real estate-invested IRAs.

In many cases, clients simply deposit assets to an account held by the custodian with general guidelines as to their handling or investment. The law imposes a fiduciary responsibility on IRA custodians, which means that they must put their clients' interests ahead of their own. That means, for instance, that the custodian may not invest the IRA's assets into projects or investments that are high risk without the client's express approval.

Another option available to consumers is a self-directed IRA. This is a type of IRA whose activities and investments are directed by the client, with the custodian simply carrying out the client's wishes.

One of the critical things to remember about self-directed IRAs is that neither the IRA's owner nor the custodian may directly profit from its investments, although the custodian may charge for services rendered. Thus, the IRA may invest in real estate, but the owner may not profit immediately from the investment by occupying or managing the property. Likewise, it would be a conflict of interest if the IRA purchased the owner's mortgage, or tax lien.

Selection of an IRA custodian should consider not only the types of investments it will permit in clients' IRAs, but also the charges imposed. Most institutions will charge a small annual maintenance fee for traditional, non-self-directed IRAs. Self-directed IRAs, however, may be significantly more costly to administer because of the nature of the non-traditional assets.

IRA custodians provide a crucial service for IRA owners, but their role is limited and, in some cases, limiting. IRA owners should familiarize themselves thoroughly with the rules governing their IRA so they're not unduly restricted in accomplishing their retirement savings objectives.