This is the second in a series of articles I am doing relative to checkbook control questions that have arisen and become important to consider in light of the recent Tax Court decision in the case of McNulty v. Commissioner, which you can read by CLICKING HERE. I highly recommend you do.
In the many years since IRA-owned entities became a thing, there has been an ongoing debate within the community about who should be the manager of the IRA-owned LLC. Certain custodians that I am affiliated with, such as Quest Trust Company, and others have made the decision that the account holder should not be the manager of the IRA-owned LLC based upon a careful reading of sections of the Tax Code, specifically 26 U.S.C. 4975. Instead, the manager should be an independent, non-disqualified, disinterested third party. Other practitioners in the field have had a different opinion. Many custodians out there have permitted the accountholder to be the manager of their IRA-owned LLC.
We need to understand what the manager of an LLC does. The manager is the person responsible for the day-to-day operations and actions of the LLC. The manager supervises the LLC’s activities, the hiring and termination of the LLC’s employees and independent contractors, and ultimately calls all the shots for what happens in the company. This is true whether the LLC is a small, single-member LLC with only a couple of assets in it or if it is a $50 million company. The manager is the person ultimately in charge.
In the McNulty case, Mrs. McNulty was the manager of her IRA-owned LLC, and Mr. McNulty was the manager of his IRA-owned LLC. That proved to be problematic in this case. You see, one of the things the manager has the authority to do is deal with the banking institutions with which the LLC has accounts. That means the manager has the ability to go to the bank and deposit and withdraw funds, meaning the manager pretty much has “unfettered access and control” of the LLC assets in whatever form they may be. That was the problem in the McNulty case. Mrs. McNulty had unfettered access and control of the assets bought with the money in her IRA-owned LLC.
Let’s look at the steps that happened in this case.
1. Mrs. McNulty opened an IRA account.
2. Mrs. McNulty instructed the custodian to invest the money in the IRA into an LLC that was wholly owned by the IRA.
3. Mrs. McNulty was the manager of that IRA-owned LLC.
4. Mrs. McNulty opened a bank account on behalf of the LLC at a local financial institution.
5. Money was transferred on at least four occasions from the custodian to the financial institution that had the bank account for the LLC.
6. Money from the LLC was then spent on four occasions to purchase gold coins which were shipped to the manager’s attention (Mrs. McNulty) at her home.
7. The gold coins were then stored in a safe bought by the LLC and kept in the basement of the McNulty home.
As you read through those steps, you can see how Mrs. McNulty truly had unfettered access and control of the money and assets in her IRA. That is a huge problem in the eyes of the IRS. The best way to avoid that is for someone other than the accountholder to be the manager of the LLC. Is it still possible to correctly operate an IRA-owned LLC if the accountholder is the manager? Yes, technically it would be, but it makes the burden of proof much harder for the accountholder to be able to say that he or she never had unfettered access and control of the money or assets owned in that LLC.
