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!