Diversification is one of the biggest keys to investing success for self-directed IRA owners. By spreading your IRA assets out among a wide range of different asset types, you can possibly reduce risk and the potentially negative effects of high volatility on your portfolio.
Perhaps you have already achieved a degree of diversification by holding a variety of traditional assets like individual stocks and bonds, mutual funds and ETFs in your self-directed IRA. However, you might be able to diversify your portfolio even further by investing some of your IRA funds in a crowdfunding platform.
Crowdfunding is Increasingly Popular
Crowdfunding has become an increasingly popular way for entrepreneurs to raise money to fund startups and other new business opportunities and generate growth capital. Legislation passed in 2012 opened the door to investing in crowdfunding to non-accredited investors and self-directed IRA owners — or in other words, to ordinary investors who aren’t super-wealthy.
Investment crowdfunding websites and platforms make it easy for self-directed IRA owners to invest relatively small amounts of money in early-stage startup businesses. For example, some of these platforms feature initial investments as low as $20, while others require a minimum investment of between $5,000 and $10,000.
There are two main types of investment crowdfunding platforms: equity and debt. With equity crowdfunding, you receive ownership shares in the business in exchange for your investment funds. With debt crowdfunding, you loan money to the startup business instead of receiving ownership shares. You could receive a convertible note that you can convert to equity in the future if you want.
Benefits of Crowdfunding Investing for Self-Directed IRAs
You could realize a number of benefits by investing some of your self-directed IRA assets in a crowdfunding platform, including the following:
• Added diversification — As noted, investing some IRA assets in crowdfunding can add another degree of diversification to a self-directed IRA by adding non-traditional asset types to the portfolio that have a low correlation to traditional assets. These may include limited partnerships, limited liability companies (LLCs), private stock, convertible notes, promissory notes and more.
• Lower costs — In the past, it was cost-prohibitive for most ordinary investors to invest in private equity deals. For example, you had to find deals on your own or invest through a professional venture capital firm. But crowdfunding has made this process far more efficient and cost-effective, which has opened it up to self-directed IRA owners.
• Tax advantages — The earnings realized on crowdfunding investments — whether interest on debt investments or dividends and capital gains from equity investments — will be tax-deferred if the investments are held in a Traditional IRA or tax-free if they are held in a Roth IRA.
Careful Due Diligence is Required
You should exercise careful due diligence when choosing a crowdfunding platform in which to invest your self-directed IRA funds. In particular, research the platform’s investment manager and find out his or her experience and expertise in crowdfunding. Also, find out how the management team decides which companies are allowed a presence on the platform.
In addition, be sure you understand exactly what you’re investing in, including the potential risks and drawbacks of crowdfunding. For example, a lack of liquidity is one of the biggest possible drawbacks of investing self-directed IRA funds in a crowdfunding platform. It can take a long time, perhaps even years, for crowdfunding investments to generate a positive return and you may not be able to get out of the investment if you need to liquidate holdings for any reason.
However, this feature can also make crowdfunding attractive as a self-directed IRA investment if you have a long-term time frame for your account. If you are still 10 to 20 years or longer away from your planned retirement date, you ideally shouldn’t need to liquidate assets before then.
Consider the Possible Benefits
If you haven’t considered the potential benefits of investing some of your IRA funds in a crowdfunding platform, now might be a good time to think about it. Feel free to contact us at (866) 642-7989 or Service@StrataTrust.com if you have more questions about this strategy.