Roth IRA - can it invest in startup company?

[Guest Richard Belden]

Does anyone know if a Roth IRA can invest in the startup funding for a company. The idea would be that a check is cut from the discount stockbroker account to the startup company in the name of the Roth IRA. The stock certificate would be in the name of the Roth IRA. Post IPO the stock would be deposited back into the Roth IRA account.

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Richard

[John G]

I have direct experience on this issue. The answer is yes and no. I will assume you are talking about a PUBLIC "IPO" not your own start up which would raise additional questions. The accountants can comment on those issues.

There are two kinds of public IPOs where the answer maybe yes: direct access (my term) and brokerage offered. Direct access is via some kind of subscription and may involve your rights, examples include local savings and loan or a mutual insurance company (Metlife is coming up) going public. Brokerage offered means the brokerage will accept a conditional offer for something they are handling and you hope you get an allocation of shares.

Broker supported direct access opportunities are rare, they have their own internal/fiduciary reasons for not allowing this. For example, Fidelity would not support this type of transaction in the early 1990s, not even for their very large customers. You mentioned "discount brokerages" - do not expect any of those low cost internet firms to monkey around with your special situation.

Yes side: Charles Schwab does support direct access IPOs, but not every office may know this. Some brokerages that clear through Bear Stearns have also supported direct access IPOs. I am familiar with 30+ examples involving myself and others. Both firms have "approved paperwork" you must use and you need to give them about 2 weeks lead time. In atleast two instances, the paperwork got lost going back and forth from local/regional/main offices. A good example is a local savings and loan or your insurance company (like Metlife) going public and you have options to buy. Note, if the "rights" are in a specific name, only an IRA with that registration can be used. An opportunity in the wifes name can not be connected to the husbands Roth.

Maybe you are talking about brokerage supported direct IPO offerings. Well, Schwab has one of these programs but they are revising it and have not had many offerings in the past three months. Etrade and Wit Capital also have IPO opportunities and Roths or Regular IRAs are just fine as long as you meet the general income/asset qualifications. However, you will get an allocation of 50 to 100 shares (most firms have initial prices in the $10 to $20 range) in perhaps 1 case out of every dozen requests. If you ever get more, then you probably bought in to a real dog. IPOs are brokerage "candy" that is handed out to big clients, new clients, and in some instances randomly to stimulate business.

All of the above was targeted at the technical requirements and eligibility. Let me add some words of caution on should you do this. If you are new to investing the answer is NO. If these Roth assets are your primary assets, the answer is NO. If you are putting all you assets into one deal hoping to make a killing, the answer is a BIG NO. Go look up the TWE IPO from the fall of 1999, it is below water. In my home town, the big deal in the 1990s was WestPac a new airline... now bankrupt and shareholders lost everything. I have been involved in IPOs for more than 15 years and I can guarentee you that they do not all go up, that access to shares is difficult, and that everyone require lots of study. One additional problem is that under some systems your dollars are tied up for a while. For example, with an insurance subscription you may be in the deal for 30 to 90 days while they get all the funds collected, which is another element of risk. The brokerage IPOs often have a 30 to 60 aftermarket hold period to maintain your future eligibility.

I have written a general response based upon the limited facts you have provided and hope that the cautionary notes are of general use to other readers. Feel free to email me if you want a more specific reply.

[This message has been edited by John G (edited 03-23-2000).]