Broker-Dealers and RIAs: Expand Client IRAs with RegCF, RegA, and RegD

In recent years, there has been a growing interest in alternative investments, particularly in private companies. For clients looking to diversify beyond traditional stocks and bonds, private offerings provide an attractive opportunity. These investments, often linked to private markets, have become more accessible thanks to regulations like RegCF (Regulation Crowdfunding), RegA+, and RegD, which allow broader participation from everyday investors.

For FINRA broker-dealers (BDs) and registered investment advisors (RIAs), this shift presents a unique opportunity to add value by educating clients on how to use their Individual Retirement Accounts (IRAs) to participate in these offerings. 

Instead of leaving their retirement savings in the same old stock-and-bond portfolio, clients can diversify by using their IRAs to invest in startups, real estate projects, or even local businesses—all while benefiting from tax advantages. And the broker-dealers or RIAs, can guide them every step of the way.

Regulatory Overview

When it comes to private company investments, three key regulations stand out: Regulation Crowdfunding (RegCF), Regulation A (RegA), and Regulation D (RegD). Each of these regulatory frameworks opens the door to investing in private companies that were once only accessible to accredited or institutional investors, expanding the investment landscape for a broader range of clients.

• RegCF allows small companies to raise capital from a large number of investors through online crowdfunding platforms. It’s designed for smaller offerings, typically up to $5 million, and allows both accredited and non-accredited investors to participate.

• RegA+ permits companies to raise up to $75 million through a streamlined process, which is divided into two tiers. This regulation is often seen as a bridge between traditional public offerings and private fundraising, allowing non-accredited investors to take part in larger offerings.
• RegD is primarily aimed at accredited investors, but it includes provisions (like Rule 506(b) and Rule 506(c)) that offer companies flexibility in raising unlimited amounts of capital. While mostly reserved for higher-net-worth individuals, this regulation is widely used in private placements.

Each of these regulations helps expand access to private markets, creating a rich source of investment opportunities for a wide array of investors. By leveraging these offerings, BDs and RIAs can help clients with self-directed IRAs invest in private companies, giving them exposure to alternative assets previously unavailable in traditional retirement accounts.

Benefits of Using IRAs for Private Company Investments

One of the key advantages of using an IRA to invest in private companies is the potential for tax benefits. Depending on the type of IRA, clients can experience either tax-deferred growth (in traditional IRAs) or tax-free growth (in Roth IRAs). These tax treatments allow the investment returns to compound without the immediate burden of taxes, making private offerings an appealing option for long-term growth in retirement accounts.

Including private companies in a retirement portfolio also offers significant diversification. Private company investments often have a low correlation with traditional assets like stocks and bonds, meaning they can potentially reduce risk in a broader portfolio. For clients seeking to spread their investment risk and explore opportunities beyond public markets, this can be a key strategy.

Choosing the Right Custodian: A Critical Step

Investing in private companies through an IRA, and selecting the right custodian is essential. Not all custodians can handle these types of investments, so it’s important to choose one who specializes in alternative investments and understands the unique requirements of self-directed IRAs.

A custodian who is familiar with private company investments will ensure that all transactions comply with IRS regulations. They are responsible for handling the administrative tasks involved, such as holding assets on behalf of the IRA and ensuring that all IRS reporting and record-keeping requirements are met.

For BDs and RIAs, advising clients on the selection of a knowledgeable custodian can have a smoother experience when investing in private offerings through their IRAs. It also helps clients avoid potential pitfalls related to IRS rules, which can be complex in this area.

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Keep an eye on Due Diligence!

Thorough due diligence is essential when evaluating private company investments for an IRA.  Private companies prior to the introduction of the JOBS Act regulation there was no mandatory requirement by a private company to provide disclosures.  Today, RegCF and RegA+ mandate disclosures to investors that is available to the general public just like public companies. 

BDs and RIAs should help their clients assess these key factors:

• SEC Filings:  Review the full offering details of a company (RegCF, RegA+)
• Business model: How does the company generate revenue? What is its path to profitability?
• Management team: Review the leadership’s track record and experience.
• Financial performance: Analyze the company’s financials to ensure stability and growth potential.
• SEC-Transfer Agent:  How are the securities going to be managed, what oversight can the BD and RIA have once the offering is closed
• Risk factors: Identify potential risks like market competition, regulatory hurdles, or reliance on key personnel.

Comprehensive due diligence reduces the risk of investing in companies that don’t align with retirement goals and ensures informed decision-making.

Tax Implications

IRAs offer tax advantages for investing in private companies, but it’s crucial to understand the tax implications. Unrelated Business Taxable Income (UBTI) can arise if the company generates income from certain business activities within the IRA. UBTI may create a tax liability, even in a tax-deferred account.

BDs and RIAs should inform clients about potential tax liabilities from private investments and discuss mitigation strategies. For example, clients can choose investments less likely to generate UBTI or structure investments to minimize exposure to taxable income.

By educating clients on these tax considerations, professionals can help them navigate the complexities of private company IRA investments while preserving the tax-advantaged status of their retirement accounts.

Attention! Prohibited Transactions

When investing in private companies through an IRA, be mindful of IRS rules regarding prohibited transactions. These rules prevent self-dealing or improper benefits between the IRA owner and their retirement assets. Violations can result in the loss of tax benefits and penalties.

Key examples of prohibited transactions include:

• Self-dealing: The IRA owner personally benefits from the investment, such as using IRA funds to invest in a business they control.
• Conflicts of interest: The IRA owner or family members directly profit from or influence the IRA’s investments.
• Buying or selling property: Transactions with disqualified persons, such as family members.

Final Thoughts

Investing in private companies through RegCF, RegA+, and RegD offerings via IRAs can unlock opportunities for clients seeking to diversify their retirement portfolios. These investments offer potential tax benefits and access to private markets previously limited to a select group of investors.

FINRA Broker-dealers and RIAs can distinguish themselves as knowledgeable advisors by helping clients navigate self-directed IRA investments. Educating clients on the benefits, addressing custodian requirements, avoiding prohibited transactions, ensuring accurate valuations, and understanding tax implications provides real value.

Private company investments through an IRA allow clients to diversify their retirement savings, potentially increasing returns while adhering to regulatory guidelines.