Coinvesting with your plan / Partnering with disqualified persons

What if you could combine your retirement funds with your personal funds and additional monies from other family members? Well, you can… sort of. This question was asked and answered in a Department of Labor Advisory Opinion in July of 2000.

Click that link above to read the opinion in its entirety, but here’s my summary in its most basic form:

Your plan can partner with disqualified persons in certain situations, BUT there are many possibilities for a prohibited transaction in operating the partnership.

A prohibited transaction is when a retirement plan transacts with a disqualified person. The DOL Opinion says that co-investment/partnering is not, by itself, creating a transaction between the plan and disqualified person. The opinion goes on to say that there are many other actions that could then constitute a transaction between the two, and thus a prohibited transaction. Here are a couple of notable items:

  1. A prohibited transaction would occur if the entity (such as an LLC) that the plan invests in was a disqualified person at the time of the investment.
  2. If the co-investment is made, even if it is not a prohibited transaction, if the interests of the plan & its accountholder diverge (with respect to the partnership) at a later time, a prohibited transaction may occur if uncorrected.
  3. If disqualified persons could not have participated in the proposed investment activity without the plan’s participation, then the inclusion of the plan’s funds would be a prohibited transaction.
  4. If the co-investment is made, even if it is not a prohibited transaction, anything in the future (involved in the partnership’s operation) that would create a transaction between a plan and disqualified person would be a prohibited transaction. For instance, if the partnership needed additional capital at a later time, the plan and disqualified persons could not buy or sell membership units or stock to or from each other or the partnership itself in order to raise capital for the partnership.

Many self directed IRA/401k promoters regurgitate this opinion letter to say “yes, a retirement plan can partner with disqualified persons.” In reality, the answer is “yes, a retirement plan could possibly partner with disqualified persons under certain circumstances.”

All in all, I encourage investors to stay away from partnering their IRA with disqualified persons.

Reader Interactions

Comments

  1. Yep, a bit funny. I haven’t gone back to point that out because it’s distracting from the lesson of the letter.

    But to see that this client invested with Madoff just goes to show you how “being big” and “having lots of clients” doesn’t always equate to “a good person or company to do business with”.

  2. Jeff,
    I am a little confused by this… I know you cannot give legal advice but what is your opinion of the following situation:
    — My wife and I form an LLC
    — Our IRAs jointly fund the LLC
    — LLC buys and sells homes or rents homes (NOT to our ascendants, descendants or with each other)
    — LLC sends gains back to the IRAs proportionally based on initial investment
    This is not a prohibited transaction in and of itself, is it (by just having the IRAs co-invested)?

  3. Jeff,

    just to go a bit further on the scenario that John raises, as it is conceptually similar to what I am interested in doing, what more specifically is wrong, or could be done differently to be in compliance?

    Certainly an IRA can own real estate, and it is my understanding that you can pool money from two different IRAs to make a purchase (although I’m not exactly clear on how this is accomplished). Is the fact that they formed an LLC in their roles as individuals, that the IRAs then invest in, that is causing the problem?

    I am assuming that they are using the LLC to a). limit their liability, and/or b). as a mechanism for pooling IRA resources. I know from one of your other posts you make reference to an ” IRA LLC”, is there another way to achieve these objectives? Does the LLC need to be formed my the IRA rather than by the individuals (I’m not even certain if that can be done)?

    Thanks.

  4. Brian,

    This conversation is getting a bit too complex for the scope of this blog. I recommend you contact my office at 877-903-2220.

    Jeff

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