How to get private stock into a Roth IRA

[pb4uski]

I interested if anyone here has experience with this.

DD works for a start-up and has received stock options that she intends to exercise within the next few months and will receive shares of stock in the private start-up company.... think of it as like Tesla 10 years ago.

In 10 years, the stock may be worth $0 or may be worth a lot if the company is successful and if it is worth a lot and if it was tax-free then that would be icing on the cake. The tax benefit would far exceed the tax benefit of the loss if the stock ended up being worthless.

She would like to end up with the company stock in her Roth IRA after she exercises the options. She has an IRA and money in it.

Thoughts? Anybody done this?

 

[Happyras]

I was doing a similar investment providing funds for a start up via a SAFE instrument. I found many ways to do this with self directed IRA's, I can share links to the best ones with low custodial costs. However, a little know fact is that Schwab can hold private equity in your accounts. There is a process and review, mostly requiring a certified audit for the company, which may or may not be available, but should be. Talk with your Schwab guy, and if he does not know how to do it, I will send you a contact there.

Definitely you want to hold these type of investments in a Roth!!!!

 

[Happyras]

A SAFE is a common form of start up funding (Simple Agreement for Future Equity), for those unfamiliar with the term. I found it was possible to even hold this in my Roth at Schwab. Fidelity was a no go Joe. So I moved a large share of my investments back to Schwab. The only compelling reason I have found to do so.

 

[Whisper66]

I had company stock options that I received in my taxable account. I wanted them in my Roth account. I didn't know a way to directly do that so I bought an equivalent # of company stock shares in my Roth account and sold the ones in my taxable account. At first, my Roth account didn't have enough assets to do exchanges like that for all the company stock .... IRA to Roth conversions in later years made the room so all my company stock that I wanted there is now in Roth accounts.

 

[pb4uski]

^^^ The shares of this company are not publicy traded so that won't work in this case.

 

[pb4uski]

I was doing a similar investment providing funds for a start up via a SAFE instrument. I found many ways to do this with self directed IRA's, I can share links to the best ones with low custodial costs. However, a little know fact is that Schwab can hold private equity in your accounts. There is a process and review, mostly requiring a certified audit for the company, which may or may not be available, but should be. Talk with your Schwab guy, and if he does not know how to do it, I will send you a contact there.

Definitely you want to hold these type of investments in a Roth!!!!

Good info. I'm not sure who she has her Roth with but worst case she may need to roll it over, in whole or in part, to Schwab first.

The company does have audited financial statements.

 

[Happyras]

Then the process should be fairly easy for her with Schwab. I believe there is an account minimum (or assets held) in order to have private equity held there. The other self directed IRA companies do not have the minimums, but they do charge larger fees to open and maintain a self directed Roth.

 

[OldShooter]

I used to put private placement stock into my IRA. Plural IRAs actually. The reason was that not all custodians would accept "unusual assets." IIRC about 15-20 years ago Schwab changed their policy and began refusing unusual assets, but @Happyras' info is probably more current.

If your current custodian is not interested in playing, they should be able to refer you to another custodian. When I was doing private placements, it was not uncommon for the promoters to have already set up a relationship with a cooperative custodian. Maybe this is not a new idea to her HR department and they already have a solution. If not, they may be interested in helping just for the benefit of other employees.

 

[Montecfo]

One problem is valuation. A second is "self dealing".

When she exercises the options, what is the value of the stock? You won't know. So say the stock explodes. You have risk that the transfer was not at arm's length in IRS' view.

Here is how it CAN work: Buy stocks in a private placement. But she probably is not an accredited investor so that probably does not work.

I have seen co-workers do paired purchases of privately held stock through IRAs to try to defeat this issue. Essentially, I buy 1000 shares of your stock at $5 per share for my IRA, you buy the same number of mine at same price for yours.

That is self dealing and or would not fly if scrutinized. But as a CFO in two startups I have seen it done or at least tried.

It is also a headache for her employer, since the IRA needs to know the "value" of the stock at least annually for IRS reporting purposes. Private companies are reluctant to assign such a value. But every year they would be asked to. So whatever she does, the company will also be aware of it.

That's additional food for thought.

 

[pb4uski]

The employer recently did a round of private equity financing so there is some basis for a valuation of the shares and/or the options. But I agree with you that it will be complicated.

 

[Montecfo]

The employer recently did a round of private equity financing so there is some basis for a valuation of the shares and/or the options. But I agree with you that it will be complicated.

Probably a different series with senior preference.

 

[clifp]

I interested if anyone here has experience with this.

DD works for a start-up and has received stock options that she intends to exercise within the next few months and will receive shares of stock in the private start-up company.... think of it as like Tesla 10 years ago.

In 10 years, the stock may be worth $0 or may be worth a lot if the company is successful and if it is worth a lot and if it was tax-free then that would be icing on the cake. The tax benefit would far exceed the tax benefit of the loss if the stock ended up being worthless.

She would like to end up with the company stock in her Roth IRA after she exercises the options. She has an IRA and money in it.

Thoughts? Anybody done this?

I've done this a number of times with startups I've invested, along with a commercial real estate, building I'd highly advise not to do it. The Mitt Romney, Peter Thiel having Roth IRA worth hundreds of millions is sweet deal, but beyond rare.

Schwab Alernative Investment is probably the least expensive, and lowest hassle. But be aware they've changed their mind at least three times in last 15 years what they would and wouldn't allow in an IRA. Forcing me to scramble near the end of the year to find an alternative IRA custodian.

You've identified the best case. It's the next Tesla. But if it is the next TESLA is she really going to be upset about having to pay 28% in LT capital gain tax?

You think you've identified worst case, it goes to zero. But in fact the most common case is the company becomes a zombie. I can say that's true for roughly half of the nearly 100 startups, I've invested in directly or indirectly over the last dozen yers.

What's a zombie? I'll an example eight years ago, I invested in a company that was going to use cellphone data to help brick mortar stores get more info about their customer to allow them to targeted marketing. I invested at a valuation of 3 million, and then 6 million and then a couple of years later they raised $2 million at $10 millon valuation from VC companies. Privacy concerns, technical issues, Apple changing it is policy, and the EU privacy laws killed the business. At the end of 2019, they were acquired in all-stock deal for their technology. One of the founder ended up working for the acquirer. The final valuation will be set sometime next year. My $50,000 investment might best case $be 15,000 more likely $5,000 and quite possibly zero. I've not heard a word from them. Standard stuff in the world of startups.

Unfortunately, the IRS has strict rules about IRA, that makes this lax communication a big issue.

In order to do this your daughter first will need to find a custodian to handle her stock. Schwab is good option, with my caveats. But often you'll need to find a company specialized in self-directed alternative investment IRAs. I used Quest IRA, they are ok, Equity Trust is the biggest.

Second. you need to pay a fee. These range from $200 up $1,000/year, per investment. Here next batch of options she gets maybe considered a separate investment.

Finally, she'll have to become a compliance officer. The IRS require that IRA custodian get fair market valuation, at least once a year. This means Schwab will send a form saying we need a fair market form fill out for the stock. Initially your daughter can go to her companies CFO and ask them to fill out valuation form. Now valuation is always tricky for private company and most smart CFO don't want to write anything down. But it won't be huge hassle as long as your daughter works there and things are going well and is nice to the CFO. The problem is when she leaves, or is laid off and she has no idea who the new CFO is or worse yet the company gets acquired.

Suffice to say that getting these forms filled out has often taken a few months a dozen phone calls and emails. If your daughter blows it off, Schwab or the IRA custodian will eventually kick you out of the program, and suddenly the IRS will treat you like you've had an early withdraw of the IRA, which means taxes and penalties!