727.441.9022
611 Druid Rd E • Suite 105 • Clearwater, FL 33756
V. Raymond Ferrara, CFP®
Chairman
Chief Executive Officer
PITFALLS OF USING ALTERNATIVE ASSETS IN YOUR IRA
NOVEMBER/DECEMBER 2017 | TAMPA BAY MAGAZINE 91
Eric R. Ebbert, MBA, CFP®
President
Chief Operating Officer
Most IRA (traditional, Roth, SEP, SIMPLE) investments go
into traditional assets like stocks, bonds, ETFs, mutual funds,
etc. However, sometimes investors want to become creative
and put in nontraditional assets for a variety of reasons. Some
nontraditional assets like collectibles (stamps, coins, art work, etc.)
are not permitted in an IRA. A small exception exists for gold and
silver coins minted by the US government or states and in some
cases gold, silver, platinum, and palladium bullion.
Potential alternative investments can include closely held stock,
stock options, IPO stock, partnerships, LLCs, real estate, mortgages,
privately held loans, etc. Most of these investments are illiquid
and could cause some issues for an investor who is over age 70
½ and subject to the Required Minimum Distribution (RMD)
rules. Thus, it is best to not have 100% of the IRA in these illiquid
investments as the penalty for not taking the RMD is 50% of the
amount which should have been withdrawn and the income tax
on 100% is still owed. Additionally, some of these investments
may require cash either from further contributions or earned
income to fund the investment.
Let’s take real estate as an example because at a minimum the
carrying costs would include taxes, insurance, maintenance, etc.
and without sufficient cash flow could lessen the value and/or
perhaps force a sale at an unfavorable time. From a tax standpoint,
the IRA cannot take depreciation, nor deduct the expenses, and
it will not receive favorable capital gains tax treatment as all of
the money will come out on an ordinary income basis, unless it
is a Roth IRA. Unlike private ownership of real estate, the IRA
cannot generally borrow money to obtain the property in most
situations without causing Unrelated Business Taxable Income
(UBTI) and the investor loses the power of leverage, especially
at today’s low interest rates.
To further complicate the matter there are prohibited transactions
which if they occur the IRS will deem the IRA liquidated. This
will cause not only income taxes to be owed on the value of
the IRA but if the investor is under age 59 ½ then a 10% nondeductible
excise tax is also assessed. As an example you can’t
buy or sell assets to or from your IRA to yourself, borrow money
from the IRA, lease assets owned by the IRA, have investments
in which the IRA owner has a controlling interest, nor do this
with any family members or related parties, etc. In short, the IRS
does not want you to use the IRA for self-dealing. For this and
other reasons, we strongly urge you to seek the advice of your
tax and legal representatives. Do not rely on the assurances of
anyone promoting or selling alternative investments as it could
be dangerous to your wealth.
Not all custodians/trustees of IRAs will accept these nontraditional
assets as investments for a variety of reasons including
their illiquidity, being hard to value, having management
responsibilities like collecting rent, and potential liability. Generally,
you will need to reach out to a specialty group to hold these assets
on your behalf. As a result, the costs to the custodian/trustee to
carry the IRA are generally more expensive than a traditionally
funded IRA. It is rare for your “normal” custodian to hold these
assets and if they do, it is generally at a higher cost than necessary.
There are custodians that specialize in holding these traditional
assets so it pays to investigate the different fee schedules. These
additional costs will create a drag on the investment return.
Knowing when, where and how to use no-traditional assets
requires careful attention to these and other matters. If you would
like to further discuss the pitfalls of using your IRA for these
alternatives investments, please give us a call for a complimentary
meeting.
About ProVise Management Group, LLC: ProVise is a financial planning and investment management firm registered with the Securities and Exchange Commission
(SEC) and has been in business since 1987. Our 13 professional advisors serve approximately 1100 clients in over 30 states. As of 6/30/17 we were managing approximately
$1.4 billion for our individual, corporate, not-for-profit and 401k retirement plans. Please visit our website at: provise.com. Investment Advisory Services offered through
ProVise Management Group, LLC. The information herein is general and educational in nature and should not be considered legal or tax advice. Tax laws and regulations
are complex and are subject to change.