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Investment Limitations in Roth IRAs


Guest jhunter10

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Guest jhunter10

I want to know what stock market investments are prohibited by law/regulations, if any. I am interested in buying/selling index options and need to know if this is permitted.

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You have two levels of investment restrictions: IRS and custodian. I have never seen a write-up on the IRS limitations, perhaps our accountants can post a reply now that we have past April 15 peak work. Custodian limitations vary widely and are often more restrictive than IRS rules.

One issue with regard to options is that some types carry fixed (pre-determined) exposure while others can be unlimited exposure. Since you just can't add more money to a IRA or Roth account, custodians are unlikely to ever allow open ended option risks, even if IRS regs were silent. Many, but not all, custodians will allowed covered calls in a IRA. Naked put/calls are a totally different matter.

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Guest benefitsguy

Once your money is in a Roth or a Traditional IRA, you can invest it how ever you want. If and if you have level 2 option trading, you can even do that. You can't use your account to play Margin though. You can even use rollover money to. BUT be careful. Don't lose your money.

I know what you're thinking... I can day trade w/ my IRA with option and make tons of money without being taxed until I withdrawal... sure... but the success rate is very low. So be careful. Don't day trade.

Important to know... if you plan to play options with your IRA's, most online accounts require you to meet a minimum balance and trades per month. Get educated before you open a level 2 option trading account, regardless if it's in a tax shelter product.

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The comment immediately above is not accurate. The IRA investments are restricted by IRS rules and custodian rules. For example, I can't think of one custodian that will allow you to sell or buy and option that exposes the IRA to unlimited risk. The reason is that you can't just throw more money into the account if you "idea" is a bomb. I seem to recall there are restrictions relative to real estate and collectables, but I defer to the tax pros on those points. There are many types of investments that you can make outside an IRA that you can not make inside an IRA. One of the accountants should have stepped up to list some of investments that are not allowed. Common guys - lets post a list or a article reference.

There are also many common sense limitations that you should impose on yourself based upon your level of investment knowledge and experience. For example, we have had dozens of people post there personal horror story of investing in one company, or in high tech or on a long shot prospect and have been badly burned. I seem to recall a few lost 75% of their value and few implied total loss. These were absolutely allowed investments, but just plain dumb choices. In my experience, I have seen a tendancy for some folks to think they are the exception to general rules of diversification and risk management.

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Guest benefitsguy

I beg to differ. I did not say that there are no risk... that is why I say "be careful." As far unlimited risk... who said that? I have had accounts and even my own which I have options in my Traditional and Roth IRA's.

Don't tell me it can't be done. It can. Learn your facts before you start attacking people. I merely gave some friendly advice that is correct. If you tell me that it's not accurate, show me. Show me the rules and regulations. The site and the article. I don't need clients. I'm not here to make money or enemies.

You can have option trading in your IRA's, not recommended but you can. You can even buy stocks. And yes I agree w/ you that you must diversify. But you try telling some of my clients that made millions off of Dell, Ebay, Yahoo to name a few. Yes, be smart about your finance and investments. But common sense?... what? Most people don't have commom sense, just look at all the idiots who bought stocks base on nothing but TV ads and gossips. Look what happened to our market now... it's over inflatted because of your so call "common sense."

So don't tell me that I'm wrong when I'm not.

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I beg to differ. I did not say that there are no risk... that is why I say "be careful." As far unlimited risk... who said that? I have had accounts and even my own which I have options in my Traditional and Roth IRA's.

Don't tell me it can't be done. It can. Learn your facts before you start attacking people. I merely gave some friendly advice that is correct. If you tell me that it's not accurate, show me. Show me the rules and regulations. The site and the article. I don't need clients. I'm not here to make money or enemies.

You can have option trading in your IRA's, not recommended but you can. You can even buy stocks. And yes I agree w/ you that you must diversify. But you try telling some of my clients that made millions off of Dell, Ebay, Yahoo to name a few. Yes, be smart about your finance and investments. But common sense?... what? Most people don't have commom sense, just look at all the idiots who bought stocks base on nothing but TV ads and gossips. Look what happened to our market now... it's over inflatted because of your so call "common sense."

So don't tell me that I'm wrong when I'm not.

benefitsguy, I don't know if you are serious or not ( I hope not, since we are all just trying to help), but you made me laugh... :P

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I have looked in a lot of dark corners of the IRS websites and have not a definitive list of disallowed investments. I have one return phone call but it has been days, and frankly this is not a topic on which most IRS people are trained.

Let me rephrase my prior assertion. I do not believe that any normal investor will find a custodian that will allow naked puts/calls (which is the specific form of options that can expose you to a risk beyond your IRA assets). If anyone knows a custodian that specifically allows naked put/call trading, post a name and phone number.

Some, but not all custodians will allow narrowly defined options like selling covered calls in an IRA. BG may not understand that there are a wide array of buying/selling combinations with options including straddles, strangles, and hedged options. This type of investing requires a vastly greater level of investment knowledge and a lot more time for decision making and tracking.

Our accounting and tax specialists on this message board should have posted on this topic. Perhaps by refreshing the question we can construct a list to cover other issues like collectables, real estate, currency trading, hedge funds, closely held corporate stock, margin accounts, etc.

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All custodians reserve the right to limit investments by an IRA. I dont know of any custodian that will permit an IRA owner to make investments that would expose the custodian or the IRA to loss exposure in excess of the IRA assets. You should contact the CBOE to see whether an IRA custodian could legally permit the trading of naked puts and calls under the applicable laws .

mjb

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There are very few limits placed on IRAs by the IRS (see IRC 408 and the Treas Regs therefor), however, there will be restrictions placed by the Trustee/Custodian and/or Plan Administrator whether the IRA is self directed or not.

But, in many cases (if the Plan permits it) all you have to do is change your Trustee etc to one that allows whatever it is that you want if there is one. Be wary of any Trustee etc that allows you to do whatever you please. Trustee etc and investment brokers have suitability and prudence etc rules that they must follow, however, there are some that will flaunt the rules just for the commission and who would not care if you made imprudent investments, lost all the money or ran afoul of the IRS and got tax penalties.

Please remember that the IRS has the final say as to whether or not what you invest in affects the taxation, it is not a free for all do as you please issue.

I suggest that you do a search on www.google.com looking for "investments in an IRA) etc and read the IRS Publication etc. There are a lot of articles etc available.

George D. Burns

Cost Reduction Strategies

Burns and Associates, Inc

www.costreductionstrategies.com(under construction)

www.employeebenefitsstrategies.com(under construction)

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I reviewed the IRA plan document of some of the most prominent and popular IRA providers. I have seen allowances for covered call options, long put and long call options. None allows the investment of naked options .

When determining the permissible investments in an IRA, one of the determinations we must make is if the investment will result in a prohibited transaction. A naked put for instance, could be determined a prohibited transaction, as the basis of the transaction may be a credit/loan…further, an IRA cannot allow an investment that has unlimited risk potential, which means the loss could exceed the value of the IRA

( you cannot carry a debit balance in an IRA, a debit balance is tantamount to an overdraft, i.e. a loan)

Life and Death Planning for Retirement Benefits by Natalie B. Choate
https://www.ataxplan.com/life-and-death-planning-for-retirement-benefits/

www.DeniseAppleby.com

 

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To respond directly to the original question from jhunter10, i.e. whether he/she can invest the IRA balance in index options… the answer is yes, providing it is not naked and the IRA document allows it

Life and Death Planning for Retirement Benefits by Natalie B. Choate
https://www.ataxplan.com/life-and-death-planning-for-retirement-benefits/

www.DeniseAppleby.com

 

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Guest Derelict

Hmm.. I thought the Service had made differentiated Margin vs Loan.

An overdraft would occur IFF bad things happened to the investment. (yes a large risk there)

I would agree that anything that risks more than the account value should be illegal.

As for closely held securities, RE, limited partnerships and other non-traditonal investments, there are many many people are invested in these :( . These have other problems such as the self dealing PT, and UBTI. Most brokers and clients are never fully aware of the consequences of holding such items in a retirement account :( . Unfortunately many of these items have large min. investments and those recently rolled over 401(k)'s are a nice target for the brokers... also the NASD might have some concern of whats going on in brokerage IRAs...

[edit]As for your question of options: Index options may be more difficult. Many Custodians will allow covered calls/puts but not for index options.[/edit]

:ph34r:

-D

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Guest Derelict

From This CBOE website section:

(fyi www.cboe.com has some great tools for learning about options)

2. Prohibited Transaction Rules

IRAs and Keogh Plans are subject to prohibited transaction rules contained in the Internal Revenue Code, which also apply to other qualified retirement plans.28 These rules generally prohibit an owner or beneficiary from using the assets of the account or plan for any purpose other than investment for the benefit of the owner or beneficiary. (For example, the assets cannot be borrowed by the owner or invested with the owner's company.) Likewise, transactions between the account or plan and a "disqualified person"29 (including the owner/beneficiary, owner's/beneficiary's family, and other related parties) may result in tax penalties and potential loss of special tax status of the account or plan.30

The purchase and sale of options in the open market are not prohibited transactions. However, Internal Revenue Code prohibited transaction rules prohibit the IRA or Keogh Plan account holder from loaning money to the account. Likewise, the holder cannot guarantee borrowing by the account or cover its losses. Furthermore, annual contribution limits restrict new money that can be put into an account. Therefore, any option strategy that could result in losses that could not be covered with cash or by the sale of liquid securities held by the account or by amounts which can be contributed to it within permitted levels should be strictly avoided. Otherwise, it would not be possible to cover account losses without committing a prohibited transaction or over contributing to the account, both of which result in unfavorable tax consequences, including the potential of tax penalties.

In the event an IRA or Keogh Plan account holder pursued the strategy of writing calls on a cash-settled index option, such as writing a call based on the Dow Jones Industrial Averagesm (ticker symbol "DJX"), and was assigned, the Internal Revenue Code does not consider the settlement debit to the account to be a distribution or withdrawal. However, as noted above, the IRA or Keogh Plan should strictly avoid this strategy if the account does not have sufficient cash or liquid securities to cover any losses, or the beneficiary is prevented from contributing additional monies to the account due to annual contribution limits.

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Ah, the secret to teasing a response from our tax accountants is writing in blue!

Thanks to all for addressing some of the problem areas. Anyone want to add a message on real estate and collectables?

Luft and Sheiner have written a good book on options for those that wish to learn more about the various types, risks and benefits - "Listed Stock Options". I think the revised version also discusses index options.

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