Lord of the Roths

[cathy63]

Umm, again, those are shares of stock he owned as founder...not stock options.

In a startup that intends to go public and is courting venture capitalists, founders shares are options. They have a vesting schedule and a strike price and you have to purchase them with cash, which is exactly what Thiel and PayPal both said he did. For tax purposes, the value of an exercised option (or a purchased founder's share) is the FMV on the date of exercise, not the strike price.

If I start a company which issues stock I can put whatever valuation I choose on those shares.

Sure, you can set the initial value however you want, but once you sell shares to outside investors the fair market value is set by how much they are willing to pay.

I really don't know if Thiel did anything wrong here. I'm just trying to explain the argument. It's possible that ProPublica has it wrong and the fair market value of his PayPal stock was only $1700 on the day he acquired it and any rational person would have agreed with that valuation on that day. I've worked at a couple of early startups where the value of my stock yo-yo'ed all over the place if we even knew what it was, so I can easily believe PayPal also had some wild swings in the early days.

ProPublica has also connected a lot of dots that weren't available to the IRS when 1999 tax returns were filed, and hindsight is 20/20. If PayPal had gone out of business 6 months after Thiel bought these shares with his Roth IRA funds, we definitely wouldn't be having this discussion.

 

[Midpack]

The difference between legal and “fair” as some assess it. If it’s “wrong”, blame Congress, and maybe the IRS, if Congress left the statute open to administrative interpretation.

+1. I'm always puzzled at people who are outraged against millionaires, billionaires or corporations who don't seem to pay their fair share in taxes - without citing what they did that was illegal per tax code. I am pretty sure no one here, regardless of net worth, ever knowingly paid more in taxes than required by IRS regs - so why would you expect high net worth peeps to do so?

So you should be outraged with Congress or the IRS...

...except many of the loopholes are done with full knowledge of the authors. Again, your ire is misplaced if it's not directed at Congress or the IRS.

 

[NW-Bound]

... It's possible that ProPublica has it wrong and the fair market value of his PayPal stock was only $1700 on the day he acquired it and any rational person would have agreed with that valuation on that day. I've worked at a couple of early startups where the value of my stock yo-yo'ed all over the place if we even knew what it was, so I can easily believe PayPal also had some wild swings in the early days...

Yes, the whole thing is about the fair market value of his PayPal shares at the time he sold himself 1.7 million shares for $1700 in cash. While it is not easy to make a valuation of a startup, even Paypal admitted that the $0.001 price was below fair value.

From the article:

PayPal later disclosed details about the early history of the company in an SEC filing before its initial public offering. The filing reveals that Thiel’s founders’ shares were among those the company sold to employees at “below fair value.”

Victor Fleischer, a tax law professor at the University of California, Irvine who has written about the valuation of founders’ shares, read the PayPal filings at ProPublica’s request. Buying startup shares at a discounted $0.001 price with a Roth, he asserts, would be indefensible.

We don't know how many shares were issued at the time Thiel got 1.7 million shares. If the total number of shares were, say 3 millions, then his whole startup would be worth $3000. It could not even own a couple of PCs and two desks if it were worth that little.

At the time Thiel bought his founders’ shares, his own hedge fund had already loaned the new startup $100,000, California and SEC records show.

And soon after the company sold him the shares, millions of dollars poured in from investors, securities filings show. In just a month’s time, the company sold a slice of itself to investors for $500,000. That June and August, another $4.5 million poured in from the venture fund arm of telecom giant Nokia and other investors, those records show.

 

[Winemaker]

+1. I'm always puzzled at people who are outraged against millionaires, billionaires or corporations who don't seem to pay their fair share in taxes - without citing what they did that was illegal per tax code. I am pretty sure no one here, regardless of net worth, ever knowingly paid more in taxes than required by IRS regs - so why would you expect high net worth peeps to do so?

So you should be outraged with Congress or the IRS...

...except many of the loopholes are done with full knowledge of the authors. Again, your ire is misplaced if it's not directed at Congress or the IRS.

+1

 

[Montecfo]

Yes, that's exactly the allegation. From the ProPublica article that started this thread:







The article also makes the same point you make -- there's not a way for ordinary investors to do this. You need an IRA custodian like Pensco that's willing to hold stock in companies that aren't publicly traded. The non-public company also has to be willing to provide a share value to the IRA custodian every year so they can file their 5498s. If you're the founder of the company, it's probably a lot easier to make that happen than it is for other employees.

Again, nothing in what you linked says he exercised stock options. And, once again, I am not aware if a way to transfer *options* to an IRA. So I tend to doubt that is what happened.

And founder's shares are just that-shares issued for payment, not options.

Now, having said that. There seems to be a feeling that thus happened when Paypal had substantial established value and Thiel then somehow issued himself shares at a discount to what others were paying at that same time. There is no evidence of that. And of course FMV is somewhat subjective in a private company but I am sure they had a legal opinion on that, whether they now agree the value was them correct or not (20:20 hindsight). That in fact is why there are fairness opinions and legal letters.

I know this as I have put together a few of these.

 

[Montecfo]

In a startup that intends to go public and is courting venture capitalists, founders shares are options. They have a vesting schedule and a strike price and you have to purchase them with cash, which is exactly what Thiel and PayPal both said he did. For tax purposes, the value of an exercised option (or a purchased founder's share) is the FMV on the date of exercise, not the strike price.







Sure, you can set the initial value however you want, but once you sell shares to outside investors the fair market value is set by how much they are willing to pay.



I really don't know if Thiel did anything wrong here. I'm just trying to explain the argument. It's possible that ProPublica has it wrong and the fair market value of his PayPal stock was only $1700 on the day he acquired it and any rational person would have agreed with that valuation on that day. I've worked at a couple of early startups where the value of my stock yo-yo'ed all over the place if we even knew what it was, so I can easily believe PayPal also had some wild swings in the early days.



ProPublica has also connected a lot of dots that weren't available to the IRS when 1999 tax returns were filed, and hindsight is 20/20. If PayPal had gone out of business 6 months after Thiel bought these shares with his Roth IRA funds, we definitely wouldn't be having this discussion.

Adding this: finding a custodian to hold private company shares is the easy part. The hard part is being talented enough to found companies which grow to be highly valuable. THAT is why this is not available to most people, not due to custodians,.just to be clear.

 

[NW-Bound]

Sure, you can set the initial value however you want, but once you sell shares to outside investors the fair market value is set by how much they are willing to pay...

Even after Thiel had sold shares to outside investors at unknown prices but certainly not $0.001/share, he still claimed his shares were worthless, and even lost values.

Now, why did he do that? I think it was to not arouse suspicion at the IRS. Somebody would raise an eyebrow if you put $1,700 into a Roth, and it became $10M at the year end.

Like I said before, if it smells fishy, it's rotten fish.

Of course some people may say the stench is not at all fishy, but more like perfume.

... soon after the company sold him the shares, millions of dollars poured in from investors, securities filings show. In just a month’s time, the company sold a slice of itself to investors for $500,000. That June and August, another $4.5 million poured in from the venture fund arm of telecom giant Nokia and other investors, those records show.

But when it came time for Pensco, the custodian of Thiel’s Roth, to report the value of the account to the IRS at the close of 1999, none of the investor enthusiasm was apparent. Pensco told the IRS that Thiel’s Roth was worth just $1,664 at the end of 1999, tax records show.

In an interview, Anderson said Pensco relied on the companies whose shares were in a Roth to say what they were worth. He didn’t know how PayPal came up with its market value, but he said Thiel’s purchase of those shares was “very legitimate.”

 

[Montecfo]

Even after Thiel had sold shares to outside investors at unknown prices but certainly not $0.001/share, he still claimed his shares were worthless, and even lost values.

Now, why did he do that? I think it was to not arouse suspicion at the IRS. Somebody would raise an eyebrow if you put $1,700 into a Roth, and it became $10M at the year end.

Like I said before, if it smells fishy, it's rotten fish.

Of course some people may say the stench is not at all fishy, but more like perfume. [emoji23]

They ask the *company* for the value of the stock, not the investor.

And no doubt there was a basis for the value, otherwise why the change?

I have been asked for such values by custodians as CFO of start-up companies. And a lot of study went into assigning values, since no established market.

 

[NW-Bound]

I was a founding member of 2 separate startups. One remained an S Corp, and one got to a point that it could raise money from outsiders.

Each round of financing, the company valuation got higher and higher. To raise new money, we had to show we were doing better and better. Nobody would want to put money into a dying company, and a startup at that.


PS. By the way, the S Corp later folded. The other one merged with one of its competitors, went public, then filed bankruptcy after a few years.