You've started a business, you've got money sitting in an IRA or 401(k), and you're wondering if you can use those retirement funds to invest in your own company. It's a great question, and the answer is yes, in certain situations. But you need to be extremely careful. Depending on your ownership, how the money is used, and when the investment takes place, you could be setting yourself up for a prohibited transaction that jeopardizes your entire retirement account.
I've been helping business owners and investors navigate self-directed IRAs, LLCs, and retirement planning for over 25 years. There are some incredible opportunities to invest your retirement dollars in what you know best, including private businesses. But before you start moving money around, you need to understand the rules, the restrictions, and the different structures that may be available to you.
Can a Self-Directed IRA Invest in a Private Business?
Absolutely! A self-directed IRA can invest in private companies, purchase shares in businesses raising capital, and hold a wide range of alternative investments outside the traditional stock market. Your retirement account isn't limited to stocks, bonds, and mutual funds just because that's what your brokerage firm offers.
In fact, I've helped clients use their self-directed retirement accounts to invest in rental properties, private companies, promissory notes, and other alternative assets. The opportunities are much broader than you might realize. But there's a big difference between using your IRA to invest in an unrelated private company and using it to invest in a business you already own or operate.
When you're investing in somebody else's company, the transaction may be pretty straightforward. When your IRA is investing in your own company, we have to start asking questions about ownership, control, compensation, and prohibited transactions. And those questions matter because getting the structure wrong can have some serious tax consequences.
Understanding Prohibited Transactions and Disqualified Persons
First, let's talk about prohibited transactions. Generally speaking, your IRA can’t loan money to you, purchase assets from you, or engage in certain transactions with people or entities that are considered disqualified persons to your retirement account.
Why? Because your retirement account is supposed to be investing for your retirement, not providing an immediate personal benefit to you or your family.
For example, let's say you own shares in an existing company and decide you want your IRA to buy those shares from you personally. You can't do that. You don't get to sell your existing founder shares to your own retirement account, even if the price is fair. That's a prohibited transaction.
And the consequences can be significant. If an IRA owner engages in a prohibited transaction involving their IRA, the account can lose its tax-advantaged status and be treated as distributed, potentially triggering income taxes and additional taxes.
Who Is a Disqualified Person?
When we're analyzing whether your IRA can invest in a company, we need to look at all the disqualified persons connected to your retirement account. These generally include:
- You, the IRA owner
- Your spouse
- Your parents and other lineal ancestors
- Your children, grandchildren, and other lineal descendants
- The spouses of your lineal descendants
- Certain fiduciaries, service providers, and entities owned or controlled by disqualified persons
Now, this doesn't mean every relative is automatically disqualified. For example, your brother or sister isn't a disqualified person simply because they're your sibling. But other business relationships or circumstances can still create problems.
The important point is that you can't just move ownership around between family members and assume you've avoided the rules.
The 50% Ownership Rule
Here's another important concept: control.
If you and the other disqualified persons to your IRA collectively own 50% or more of certain interests in an existing company, that company can also become a disqualified person. And that creates a problem when your IRA wants to invest in or loan money to that company.
Let's say you have an arm's-length friend who owns 25% of a business, but you, your spouse, and your child own the other 75%. That's a no-go zone for transactions between your IRA and that existing company because the disqualified parties collectively own more than 50%.
And you can't necessarily avoid the rule by moving ownership into another entity. If you own a company that owns an interest in the business seeking capital, we still have to look at the ownership and control relationships.
Now, don't assume that owning less than 50% automatically makes everything permissible. We still need to examine who controls the business, whether you're receiving compensation, and whether the transaction creates another prohibited benefit. But understanding the ownership rules gives us a starting point for evaluating your options.
What Are Your Options for Investing Retirement Funds in a Business?
Now that we understand what causes a problem, let's talk about some options. Because there are legitimate ways to use self-directed retirement accounts to invest in private businesses, and the right approach depends on your situation.
1. Invest in a Business Owned by an Unrelated Party
First, any non-disqualified person may be able to use their IRA or 401(k) to invest in your company, just as your retirement account may be able to invest in theirs. They could purchase newly issued shares, make a properly structured loan, or potentially purchase existing shares from you personally.
For example, suppose an arm's-length friend owns a company and wants to raise capital. Your self-directed IRA may be able to invest in that business. Likewise, an unrelated investor's retirement account may be able to purchase shares in your company.
Now, I'm not suggesting some sort of quid pro quo where you and a friend agree to invest in each other's companies just to get around the prohibited transaction rules. But when you have legitimate arm's-length parties, retirement accounts can invest in private companies.
This is one of the reasons I love self-directed IRAs. You can invest in private businesses and opportunities you understand rather than being limited to whatever investments your brokerage firm offers.
2. Consider a Company With Less Than 50% Disqualified Ownership
Another possibility involves a company where you and your disqualified parties collectively own less than 50%.
Let's say you and your family own 40% of a company, and unrelated investors own the other 60%. Assuming you have a typical operating agreement where the majority owners exercise control, there may be opportunities for your IRA to invest in the company or provide capital.
You may also be able to serve as an officer or director and work in the business under an appropriately structured arrangement. Your compensation would need to be fair and reasonable, and we'd have to examine your ownership, authority, and any potential conflicts with your retirement account.
The reason this structure can work in certain circumstances is that the other 60% is owned by arm's-length investors who aren't disqualified persons. There's a check and balance here. Those unrelated investors aren't going to want to overpay you for your services when they own the majority of the company.
But again, the ownership percentage isn't the only test. We need to look at the entire arrangement, including whether your IRA is purchasing newly issued interests or acquiring shares from a disqualified person.
3. Consider a Solo 401(k) Loan for Business Capital
A third option, if you simply need some interim capital, may be a Solo 401(k) participant loan.
An IRA can’t make a loan to you personally, but an eligible Solo 401(k) plan can permit participant loans. Generally, you can borrow up to the lesser of $50,000 or 50% of your vested account balance, subject to the applicable rules and exceptions.
For example, if you have $100,000 in an eligible Solo 401(k), you may be able to borrow $50,000 and use those proceeds for business purposes. The loan is made to you as the participant, not directly from the retirement plan to your company, and it must follow the plan's repayment and interest requirements.
The important distinction here is that a Solo 401(k) participant loan and a direct loan from the retirement plan to a company are two different transactions. Both need to be evaluated under the applicable rules. But the point is that a Solo 401(k) may give you access to business capital that an IRA simply can’t.
Funding a New Company From the Beginning
Now, here's one of my favorite strategies and something we've helped clients explore countless times: funding a company from inception.
There are technical distinctions involving the initial issuance of ownership interests in a company that doesn't previously have owners. In certain circumstances, you can structure an investment where your IRA participates in forming and funding a new company rather than purchasing an existing interest from you personally.
Let me give you an example.
Example 1: Forming an LLC to Purchase Investment Property
Let's say you're forming an LLC to purchase an investment property. You could potentially contribute your own money, have your IRA invest, bring in your spouse's eligible retirement account, and even explore investments involving your children's Roth IRAs. You're pooling capital into a new company with the right operating agreement and ownership provisions, and that LLC goes out and purchases a rental property.
Depending on the circumstances, the LLC may even be able to obtain a nonrecourse mortgage. These types of financing arrangements are available for certain retirement-owned real estate investments, but the lender generally can’t rely on a personal guarantee from the IRA owner.
The key is that we're planning the structure from the beginning. We're not taking an existing company that you already own and trying to inject retirement money into it after the business has accumulated value.
Now, I want to be clear that starting from scratch doesn't automatically eliminate the prohibited transaction rules. The ownership interests, management provisions, financing, and relationships between the investors all have to be evaluated. But this is an example of why the timing and structure of the investment matter so much.
Example 2: Using Retirement Funds to Invest in an Operating Business
Now, could you do something similar with an operating business? Maybe you're starting a restaurant, manufacturing a product, opening a retail store, or launching a service company. Yes, retirement accounts can invest in operating businesses. But here's where your personal involvement becomes extremely important.
Suppose your IRA owns a substantial interest in a new restaurant. You hire an unrelated manager and employees to run the operation, and your IRA holds the investment. Depending on the structure, that may be permissible. But what happens if you want to work in that restaurant, manage the employees, and collect a salary?
Now we've got a potential prohibited transaction. You can't just use your IRA to fund a business and then turn around and pay yourself for operating it. That can create prohibited self-dealing and personal benefit issues.
This is where minority ownership arrangements with unrelated investors can create different possibilities. But whether you can work in the company depends on the full ownership and management structure, not simply the fact that the company is newly formed.
Watch Out for UBIT
There's one other cautionary point I want you to keep in mind when your IRA or 401(k) invests in an operating business: Unrelated Business Income Tax (UBIT).
Here's how it works. Let's say your self-directed IRA invests in an LLC that operates a restaurant or another active business. If that LLC is taxed as a partnership, your IRA's share of the business income may be subject to UBIT, even though the money stays inside your retirement account. That's because the IRS treats income from an active trade or business differently from typical investment income, such as interest, dividends, or capital gains.
Now, the type of entity matters. Investing through an LLC taxed as a partnership can produce a different tax result than investing in a C corporation. And if your IRA uses financing to purchase real estate, that can create additional tax considerations as well.
UBIT is a rabbit hole we could go down for hours, so here's the key takeaway I want you to understand: just because an investment is allowed inside your self-directed IRA doesn't mean all the income it generates will be tax-free or tax-deferred. Make sure you understand the tax consequences before making the investment.
Why I Prefer Keeping Operations and Investments Separate
If you've seen my Trifecta, you know I like to separate operations on one side and assets and investments on the other. It's a wonderful balance, and it's how I generally recommend business owners think about building wealth.
On the operations side, you've got the business where you work, generate ordinary income, and create profits. Maybe you're operating through an S corporation, taking a reasonable salary, receiving pass-through income reported on a K-1, and contributing to a Solo 401(k) or another retirement plan. Then you can take those profits and build investments on the other side of the Trifecta.
On the investment side, we're trying to build passive income and accumulate assets in our tax-preferred accounts, including Roth IRAs, traditional IRAs, 401(k)s, and even HSAs where appropriate. Those accounts may invest in rental properties, private notes, oil and gas royalties, or other alternative assets through properly structured investments.
I generally don't recommend trying to inject your retirement account into the same operating business where you're working every day and taking a salary. That's where we can run into all sorts of prohibited transaction problems. Instead, I like to see business owners create income through their operating companies, use the available tax and retirement planning strategies, and then invest those retirement dollars into other assets.
We're creating a firewall between operations and investments. You're still using the profits from your business to build wealth, but you're keeping your retirement investments separate from the company that's paying you to work.
And remember, that separation doesn't eliminate every tax or prohibited transaction issue. But it's a structure I prefer because it can make the planning much cleaner.
What About the ROBS Strategy?
Now, as you're researching ways to fund your business with retirement money, you may have come across something called Rollovers as Business Startups (ROBS).
This is a separate qualified retirement plan strategy with its own requirements. I'm not saying ROBS arrangements don't work or that they're bad, but they're generally more complicated and expensive to implement and maintain.
In a typical ROBS arrangement, you're establishing a C corporation and a qualified retirement plan, often structured around a 401(k) plan with employee stock ownership features. The retirement plan purchases stock in the corporation, providing capital for the business. You can then potentially work for the company and take a salary. I'm oversimplifying it, but that's the general concept.
One drawback I want you to consider is that you've essentially used retirement money to buy yourself a job. Now, that may be a great business opportunity if you've got a solid plan and the numbers make sense. But you need to recognize the risks. You're using retirement savings to fund a business that may also become your primary source of income. If that business struggles or fails, you could put both your livelihood and retirement savings at risk.
ROBS can be an option, but make sure you understand the costs, compliance requirements, and economics before moving forward.
The Bottom Line
If you're a business owner or entrepreneur with money in an IRA or 401(k), I know your mind is probably racing with ideas. And that's okay! There are a lot of opportunities to self-direct those retirement dollars and invest in what you know best. But when you want to invest in a company you already own and operate, your options become much more limited. The ownership, timing, structure, and prohibited transaction rules all matter, and you need to understand them before making an investment.
If you're ready to explore self-directed investing, book a free call with my team at Directed IRA. They can help you understand your account options, explain the setup and funding process, and walk you through the custody and paperwork involved in investing in private companies and alternative assets. There are incredible opportunities to invest your retirement dollars in what you know best. You just need the right team to back you so you can build wealth without putting your retirement account at risk.
Frequently Asked Questions
Can I use my IRA to fund a business I already own?
Potentially, but the prohibited transaction rules can make this difficult. If you and other disqualified persons own or control the company, an investment from your IRA may be prohibited. The answer depends on the ownership structure, the transaction, and your personal involvement in the business.
Can my IRA invest in a startup?
Yes, a self-directed IRA can potentially invest in a startup or newly formed company. However, the investment must comply with prohibited transaction rules, and the fact that a company is new doesn't automatically make the arrangement permissible.
Can I use my IRA to buy shares from myself?
No. Selling your personally owned shares to your own IRA is generally a prohibited transaction because you're a disqualified person to the account. A fair market price doesn't make the transaction permissible.
Can I work for a business owned by my IRA?
Your ability to work for an IRA-owned business depends on the ownership, management, and compensation structure. Personally providing services or receiving compensation can create prohibited transaction concerns, particularly when your IRA owns or controls the company.
Can a Solo 401(k) loan be used to start a business?
An eligible Solo 401(k) may permit participant loans that can be used for business purposes, subject to applicable loan limits, interest, and repayment requirements. The loan is made to the participant, not directly to the business, and it must comply with the plan's rules.
What happens if I accidentally make a prohibited IRA transaction?
If an IRA owner engages in a prohibited transaction involving their IRA, the account may lose its IRA status as of the first day of that tax year and be treated as distributed. That can create substantial income taxes and potentially additional taxes, depending on the circumstances.
