The venture capital market may hold some new opportunities for risk-tolerant, sophisticated Self-Directed IRA investors. Here’s why:
Companies are requiring less in startup and seed-stage capital than they were just a decade ago. A lot less: In 2004, the average amount of startup capital a typical company needed to take a product to market was about $3 million. In 2014, that number has fallen to $500,000. That is, companies are getting to the launch stage with just one sixth of the capital they needed just ten years ago.
That’s very exciting news: It means that there are opportunities for ROI that potentially dwarf most investment opportunities on the market in the last decade. It also means potentially more products and services reaching the market, and greater choices for those who consume them. Furthermore, anything that reduces the huge barrier to entry into the entrepreneurial field has got to be a great thing. We love to see entrepreneurship open more roads to more people besides the wealthy and connected.
But the lower capital levels required pose a problem for traditional VC fund managers – and Self-Directed IRAs can potentially be a big part of the solution.
The problem with lower levels of needed funding is that traditional venture capitalists are not looking to fund deals in the $250,000 to $500,000 range. When you add in all the time and effort of due diligence and the limited amount of bandwidth the directors and managers have to help muscle a company to a profitable exit, and combine it with the very real risks of venture capital strategies, investments that small are not worth the effort for them.
To put a large fund to work, they would have to invest in too many deals, and spread their efforts too thin to have any real punch.
And so many of today’s entrepreneurs who are seeking capital to launch their product lines or bring services to market are left in the cold: They are underserved by traditional venture capitalist firms. Banks don’t understand most of them, and many of them are not collateralized to be attractive to a traditional lender, who usually look for a history of regular cash flow that doesn’t exist for a company that’s still in the development stage.
And so they are looking to alternative sources of capital: Crowdfunding sites, angel groups, family investment offices, and the like.
That’s where the Self-Directed IRA investor comes in.
IRA rules are flexible enough to allow you to invest your IRA money in any C corporation, partnership or LLC. You don’t have to limit yourself to publicly-traded corporations.
Because these smaller companies are underserved and capital is scarce in this market, they may be willing to pay a premium for access to your money – especially where little or no return is likely for several years.
The Self-Directed IRA owner can therefore negotiate a deal that works for both parties, with the potential for above market rates of return.
You can also use your Self-Directed IRA to invest in a venture capital or micro-VC fund yourself. Typical venture capital funds charge about 2 percent in management fees. That’s much higher than a typical mutual fund – but VC funds (and their big brothers, the private equity funds) also bring a lot to the table in terms of management expertise, contacts and access to markets that more passive mutual fund managers typically don’t bring.
Self-Directed IRAs – especially Roth IRAs – can be a great vehicle for this kind of investing because the object is typically to get a substantial return: Up to 4 to 20 times your initial investment. The Roth IRA means that your entire profit when it’s time to exit your position is generally tax-free.
If you are an accredited investor, have some tolerance for risk and a time horizon of at least a few years, venture capital and micro-VC may be a lucrative opportunity for some of your retirement funds.
If being part of the venture capital world yourself, or even just an individual angel investor is appealing to you, give us a call at 866-7500-IRA(472) and we will help you get set up. Once you have an account open with American IRA, LLC, all you have to do is go out and find a deal.
For more information, visit us on the web at www.americanira.com. Our offices are in Charlotte and Asheville, North Carolina, but we’re happy to work with investors anywhere in the country.