Warren Buffett, the venerable master investor and Chairman of the massive holding company Berkshire Hathaway has done a superb job of identifying undervalued companies over the years – and then holding them until investors receive some value for them.
But Buffett is more than a great stockpicker: He’s also a master of setting up his entities and his dividend policies to defer taxes to shareholders and to maximize long-term shareholder value – by mimicking some of the advantages of a self-directed IRA. Here’s how:
- Buffett likes being able to go anywhere and invest in anything. While Berkshire certainly owns some well-known stocks (Coca-Cola being a notable long-term holding), Buffett and his partner Charlie Munger have long demonstrated that they’re willing to buy just about any type of entity if it’s at a favorable price and presents a compelling value and built-in margin of safety.
Buffett knows that many times the best values are not to be found in publicly-traded stocks and bonds – particularly when interest rates are very low and markets are overheated, relative to earnings.
As a result, he’s often taken big positions and even 100 percent stakes in small, closely-held C corporations, limited partnerships, pipelines, real estate (including a whole real estate company, Berkshire Hathaway Realty) and nearly any other type of investment you’d care to name.
Buffett could have structured Berkshire Hathaway as a mutual fund, under the Investment Company Act of 1940. That would have simplified the process of offering shares, but it also would have restricted his ability to invest in anything he wanted at any time. Instead, he went with a holding company concept that enables him to move money in and out of the publicly-traded investment world any time he wants, and that provides him with more flexibility when it comes to setting his own dividend reinvestment policy.
- Buffett also does not expose investors to needless taxes. How? He doesn’t pay dividends. Yes, many of the companies he owns within the Berkshire Hathaway portfolio themselves generate a lot of cash on an EBITDA basis. But Buffett is able to take those free cash flows and consistently reinvest them – and beat the broad market indexes in so doing. As long as he thinks he can do that, why bother paying a dividend? After all, the dividend is taxable to the Berkshire Hathaway stockholder as ordinary income. And Buffett is better at investing than most of his investors. That’s why he’s Warren Buffett!
While most people can’t beat Buffett with billions of dollars to invest at any time (the bigger your purse, the harder it is to be nimble with it), lots of people can do very well finding private investment opportunities with their own IRAs, with a few tens of thousands, hundreds of thousands or millions of dollars in it. There are a lot of very lucrative real estate and private placement opportunities out there that good investors can take advantage of that are ‘below the radar’ of the institutions and even investors like Warren Buffett.
The Self-Directed IRA Advantage
That’s where your self-directed IRA comes in: Like Buffett’s holding company, your self-directed IRA can open up entire new investment vistas for you, beyond those typically pitched by stock brokers and investment companies. Self-directed IRAs let you go nearly anywhere in the quest for value. So you can take positions in those private placements, venture capital opportunities, private lending, hard-money lending, land banking, tax liens, precious metals and go nearly anywhere Buffett can go, except you can be a lot more nimble, and chances are, as an individual investor, you don’t have the disadvantage of ‘bidding up’ anything you get involved in because you’re trying to keep a ton of money invested all the time.
Buffett loves companies with a ton of free cash flow that he can use to reinvest elsewhere in the Berkshire Hathaway portfolio. But he detests paying dividends because of the tax problem. C corporations expose shareholders to absurd double taxation every time they pay a dividend: Because dividends aren’t tax deductible to the company, the shareholder winds up paying taxes twice on every dividend: Once at the corporate level, and then again at the individual ordinary income rate.
Using a self-directed IRA (or self-directed SEP, 401(k), SIMPLE IRA, Coverdell or health savings account, for that matter) allows you to control the timing of when you realize that income – and it allows you to break the vicious cycle of double taxation. If you hold a cash-generating company in a taxable account, every dividend is going to generate a tax bill for you, before you can spend it, enjoy it, or reinvest it in your portfolio. But if you hold that dividend-generating company – or real estate property, or anything else – within a self-directed IRA, then taxes are a non-issue. You can reinvest them as much as you like, in whatever you like (subject to just a few restrictions), with no tax liability whatsoever until you take a distribution.
The more capable of an investor you are the more this makes sense!
If you hold it in a Roth account, then the logic is overwhelming: Dividends in a taxable account are, well, taxable. The government takes its pound of flesh before you will ever be able to reinvest that money. But hold those dividend-producing companies, or rental income producing properties in a Roth IRA and those dividends are reinvested tax-free, for as long as you keep them in the account – and then you get to take distributions tax –free.
Indeed, when it comes to Roth accounts, even Warren Buffett wishes he could get a similar deal!
Are you an experienced investor with an interest in cash-flow generating investments that kick off a lot of dividend or rental or royalty income? Or do you naturally trade a lot and generate quite a bit in capital gains taxes? If so, we’re eager to work with you. Call us today at 866-7500-IRA (472), or visit our website at www.americanIRA.com.
We work with thousands of entrepreneurially minded, mature investors with long-term time horizons and who know how to find value in the investment marketplace – and we want to work with you, too.