Individual Retirement Accounts: IRS Could Better Inform Taxpayers about and Detect Noncompliance Related to Unconventional Assets
Fast Facts
Individual retirement accounts (IRA) help taxpayers save for retirement. Most IRAs invest in assets like stocks and mutual funds, but some IRA owners want to invest in unconventional assets like real estate or virtual currency.
IRS Publications 590-A and B offer guidance to taxpayers with IRAs, but details on unconventional assets are limited. For example, investing in some types of bullion is permitted, but storage requirements are not explained.
We recommended that IRS assess its options—like directing IRA owners to webpages with specialized information and technical regulations—to help taxpayers fully understand the rules on unconventional assets.
A broken piggy bank with cash spilling out of it
Highlights
What GAO Found
The Internal Revenue Service's (IRS) Publications 590-A and 590-B serve as a general handbook for millions of taxpayers with individual retirement accounts (IRA). However, the two-part publication provides limited information for IRA owners with unconventional assets surrounding complex tax rules in four compliance areas: (1) barred investments, (2) prohibited transactions, (3) unrelated business income, and (4) fair market value. GAO found other limited information about these topics on IRS's website. With only about 2 percent of IRAs invested in unconventional assets, adding more pages to Publications 590-A and 590-B may not be practical. By assessing options for informing IRA owners investing in unconventional assets, such as directing them to web pages with specialized information and technical regulations, IRS could better help them comply.
Noncompliance involving unconventional IRA assets is difficult to detect and time consuming for IRS to pursue. Whereas IRS relies on automated enforcement for IRAs invested in conventional assets held by custodians and trustees, enforcement for IRAs invested in unconventional assets or under IRA owner control requires labor-intensive audits of individual taxpayers. Using newly compiled information, IRS identified about 2 million IRAs that held certain types of hard-to-value assets as of 2016; however, about 20 percent of the forms were missing fair market value amounts for these assets (see fig.).
Numbers of IRAs Reporting Certain Types of Unconventional Assets and Reporting Their Value (Tax Year 2016)
|
Data element from IRS Form 5498 |
Number of forms reporting |
|
Certain types of unconventional nonmarket assets |
2.0 |
|
Fair market value of specified assets |
1.6 |
Source: GAO analysis of IRS data. | GAO-20-210
IRS officials said this type of reporting alone may be inadequate for audit selection and identifying potentially abusive IRAs. When IRS lacks sufficient data to detect abusive transactions, IRS can require taxpayers to self-report certain transactions that have been used by other taxpayers to avoid taxes. Additional taxpayer or custodian disclosure of potentially abusive IRA transactions coupled with IRS analysis of reported details may help IRS to select IRA owner tax returns to audit.
Fragmented responsibility among IRS divisions creates challenges for examiners who need to share expertise and collaborate on IRA enforcement. The division responsible for tax-exempt entities trains its examiners on how to determine if an employee retirement plan has engaged in business activities subject to taxation. However, examiners in the division that audits complex individual tax returns, including those involving IRAs, do not receive such training. Training for those examiners could help improve collaboration on IRA enforcement.
Why GAO Did This Study
Unconventional IRA investments—such as real estate, certain precious metals, private equity, and virtual currency—can introduce risks to account owners who assume greater responsibility for navigating the complex rules that govern tax-favored retirement savings. IRS enforces tax rules relating to IRAs and can assess additional taxes.
GAO was asked to examine the challenges associated with enforcing rules governing IRAs invested in unconventional assets. This report examines (1) the extent to which IRS offers guidance to help taxpayers understand the rules governing unconventional IRA assets; and (2) the challenges IRS faces in enforcing those rules. GAO identified and analyzed IRS information to help taxpayers understand four compliance areas. GAO reviewed IRS analysis of nonmarket IRA assets reported by IRA custodians, and IRS audit procedures and training materials; and interviewed relevant IRS officials to identify enforcement challenges.
Recommendations
GAO is recommending that IRS (1) assess options for updating its IRA publications to provide more information for taxpayers with unconventional assets, (2) evaluate the feasibility of requiring disclosure for high-risk IRA asset types associated with abusive tax schemes, and (3) develop auditor resources (such as training materials or job aids) that explain how IRAs with unconventional assets can generate unrelated business income tax. IRS generally agreed with GAO's recommendations.
Recommendations for Executive Action
| Agency Affected | Recommendation | Status |
|---|---|---|
| Internal Revenue Service | The Commissioner of Internal Revenue should assess options for updating Publications 590-A and 590-B to either include more information or direct taxpayers to other resources for IRA owners with investments in unconventional assets. Such information could include: storage requirements for IRA investments in certain precious metals; valuation methods for hard-to-value IRA assets; the Department of Labor's process for granting exemptions to IRA prohibited transactions rules; and IRA investments with the potential to create unrelated business income tax liabilities. (Recommendation 1) |
IRS agreed with GAO's January 2020 recommendation and took steps to address areas where GAO identified limited information was available for IRA owners with investments in unconventional assets. For the prohibited transaction rule, IRS updated Publications 590-A in March 2021 and 590-B in May 2021 with information and links for Department of Labor procedures for granting exemptions to IRA prohibited transactions. For other issues GAO identified related to unconventional and hard-to-value IRA assets, IRS determined that it would develop additional regulatory guidance. The Department of the Treasury and IRS Priority Guidance Plan, updated in June 2024, includes an IRA guidance project, and this is a long-term project on the Office of Management and Budget's Spring 2024 unified regulatory agenda. As part of the larger IRA guidance project, IRS is working to clarify treatment of new types of unconventional digital assets. In March 2023, IRS announced proposed regulations to treat certain non-fungible tokens as collectibles which would not be allowed as IRA assets. Treasury and IRS solicited public comments to inform its rulemaking, and that new regulation has not been finalized yet. As final regulations issue under the IRA guidance project, IRS will update Publications 590-A and 590-B and other resources with plain language for taxpayers and their advisors. Additional information and resources will help IRA owners better understand how IRA investment decisions and certain types of unconventional assets can increase their risks for noncompliance and errors that may jeopardize their retirement savings.
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| Internal Revenue Service | The Commissioner of Internal Revenue, building on forthcoming compliance research using new IRA asset data, should evaluate the feasibility of requiring disclosure for high-risk IRA asset types associated with abusive schemes as transactions of interest. (Recommendation 2) |
IRS agreed with GAO's January 2020 recommendation. IRS evaluated results from two IRA compliance research projects to determine whether certain IRA asset types were associated with abusive schemes. Its October 2019 research project examining IRA owner cases revealed that an audit detecting IRA prohibited transactions can result in substantial tax adjustments. For its January 2021 compliance research project, IRS selected another sample of IRA owners based on custodian reporting on Form 5498 that their IRAs held certain hard-to-value assets. Based on the research results, IRS did not recommend requiring disclosure of IRA arrangements based on asset type as a transaction of interest. In April 2021, IRS concluded that requiring additional IRA disclosures would unnecessarily burden taxpayers and generate an unmanageable number of reports that would not aid IRS in detecting noncompliance. In September 2024, IRS provided documentation demonstrating additional actions to identify abusive IRA schemes. Examiners on the 2021 research project suggested focusing on IRAs where the custodian allows direct control by the IRA owner over the assets. According to IRS officials, those self-directed arrangements appeal to individuals who are more likely to intentionally engage in prohibited transactions. An IRS cross-divisional work group, including the Office of Promoter Investigations, Criminal Investigations, and IRA examination specialists, tested data analytics using custodian reporting on Form 5498 to identify custodians involved in abusive schemes. The work group determined that the available information did not identify the promoters who market abusive schemes to IRA owners or fraudulent activity conducted within IRAs held by custodians who allow self-directed arrangements. Instead, IRS has followed up on potential leads about IRA owners engaged in noncompliant transactions and promoters engaged in fraud. Continued attention to identifying emerging threats and pursuing viable leads about abusive IRA schemes will aid IRS in promoting voluntary compliance by IRA owners and their advisors.
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| Internal Revenue Service | The Commissioner of Internal Revenue should develop resources (such as training materials or job aids) for Small Business/Self-Employed examiners conducting IRA owner audits that explain how IRAs with unconventional assets can generate unrelated business income tax liability, and how examiners can refer cases to unrelated business income experts in IRS for assistance. (Recommendation 3) |
The Internal Revenue Service (IRS) agreed with GAO's January 2020 recommendation and took action to educate Small Business/Self-Employed (SB/SE) examiners responsible for auditing IRA owners that unconventional IRA assets may generate unrelated business income tax liability and require the IRA to file an income tax return. Specifically, IRS added information about the unrelated business income tax rule to the SB/SE IRA Frequently Asked Questions (FAQ) job aid. The job aid explains which IRA asset types and information to review, and directs an examiner to contact SB/SE IRA program analysts and Counsel for additional information. It also explains how to refer a potential IRA tax filing case to the Tax Exempt/Government Entity division using the IRS specialist referral system. In January 2021, IRS posted the updated IRA job aid on its IRS-wide Knowledge Management intranet site for use by examiners. As a result, IRS is better positioned to share expertise for detecting unrelated business income unreported by an IRA.
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