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Is investing IRA assets into a partnership a prohibited transaction?


cman
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Hi all, question. 

I know it is possible to invest IRA assets into a partnership, but there are UBTI implications.

Is investing IRA assets into a partnership that you control a prohibited transaction? 

Does the distinction of investing the assets into the LP vs. GP units matter?

Essentially i am wondering if one can invest their own IRA assets into the formation of an investment partnership/ hedge fund.

thanks

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Hi all, question. 

I know it is possible to invest IRA assets into a partnership, but there are UBTI implications.

Is investing IRA assets into a partnership that you control a prohibited transaction? 

Does the distinction of investing the assets into the LP vs. GP units matter?

Essentially i am wondering if one can invest their own IRA assets into the formation of an investment partnership/ hedge fund.

thanks

 

No, you have to be aware of ERISA around investing IRA assets in a partnership.  Basically, 25% of the fund assets, excluding GP's interests and GP principal's LP interests, have to be excluded from that calculation.  So, you cannot start a fund with your own IRA, otherwise you could be deemed to be a benefit plan and that changes everything.  There may be other ways around it, but I do not know of it, so probably consult a tax/fund specialist.  Cheers!

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are there UBTI implications?  Of course there is, but usually not.

Is investing IRA assets into a partnership that you control a prohibited transaction?  No.

Does the distinction of investing the assets into the LP vs. GP units matter?  Consult you legal advisor, but my 2¢ would be to use the assets as an LP.

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There are familial restrictions as well:

 

 

THE RULES AGAINST SELF-DEALING

 

Self-dealing—where the IRA owner uses the account for personal enrichment or to satisfy self-indulgent financial objectives in a way that goes beyond the intent of the tax law—is a nebulous area. When an IRA transaction doesn’t fit precisely into preestablished guidelines, the IRS or the DOL scrutinizes the “facts and circumstances” to determine whether it passes muster. The IRA owner or a “disqualified person”—anyone with control over the assets, receipts, disbursements and investments or who has the ability to influence investment decisions, including members of the IRA owner’s family (spouse or lineal descendants)—can initiate a prohibited transaction

 

http://www.journalofaccountancy.com/Issues/2000/Apr/TheDosAndDonTsOfIraInvesting.htm

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With regards to the 25% rule, it is a bit technical, and some of the rules changed a few years ago. Many of the attorneys are still working off of the old rules. So, check with your attorney, but be aware of some of this info.

 

IRAs are considered to be benefit plan investments for IRS purposes, but not for ERISA purposes. What this means, is that the 25% ERISA limit applies to IRAs only if there is at least $1 of other ERISA money in the account. However, if the account contains IRA money only, along with other non-ERISA money, then the 25% limit does NOT apply. Once a fund accepts ERISA money, then the IRA money counts along with the ERISA money towards that 25%. The confusion comes in because the law changed in the 2006 pension protection act. IRAs now count as "benefit plans" for IRS purposes, but not for ERISA purposes. So, as long as you don't accept accounts like pension plans, HSAs, 401Ks, etc., you can have an unlimited amount of IRA money in the hedge fund and it won't trigger the rule.

 

The attached gives a bit more info.

Pepper_Hamilton_IRA.pdf

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Interesting discussion.

 

I wonder if part of the worry about either one's own or related IRA assets under management, would be the ability to pull fees. It would give one a way to pull money out of one's own IRA without paying the related taxes through management fees.

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Hi all, question. 

I know it is possible to invest IRA assets into a partnership, but there are UBTI implications.

Is investing IRA assets into a partnership that you control a prohibited transaction? 

Does the distinction of investing the assets into the LP vs. GP units matter?

Essentially i am wondering if one can invest their own IRA assets into the formation of an investment partnership/ hedge fund.

thanks

 

I looked into doing this once. What I was able to determine was that you could have a self directed IRA that as invested in LPs and LLCs as long you were not the managing member of said LP or LLCs. This would mean you can use it seed the hedge fund of a friend, but not the one you're starting. At least that's what my understanding of the rules as of 3 years ago when I was looking into this.

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Thanks for all the responses.  Let's take another stab at it...

 

So there are 3 issues here:

1) UBTI (smallest issue)

2) Prohibited transaction (deal breaker for the IRA)

3) ERISA trigger (deal breaker for the partnership)

 

Here is what I am thinking, is it doable?

I want to put X into the fund, of which 40% is IRA money and 60% cash.  Outside investors will put in 10X.

1) Seed GP with cash. 

2) Seed fund with additional capital from the IRA so as to be 100% aligned with partners.  The work around would be to a) invest in the LP not GP and b) waive all fees to eliminate the appearance of a prohibited transaction where you skim fees out of the IRA (forget exactly what they term this).  However, to accomplish this, must these LP units be a different class?  And if they are a different class and they are 100% of that class, does that violate the 25% ERISA rules.

 

These rules don't make a lot of sense, by the way.  In the name of preventing a few tax cheats they are prohibiting legitimate capital formation and disincentivizing alignment of interest between fund managers and their partners.

 

Back to UBTI... does anyone know if it is based on gross or net leverage in the case of a hedge fund?  I've not found a single piece of info on this.  Thanks

 

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