Investing in domain names through a retirement account might allow you to defer taxes.
Earlier this week I introduced UpMoney, my new site about investing, spending and saving.
In one of the posts I interviewed Kirk Chisholm, Principal of wealth management firm Innovative Advisory Group, about investing retirement funds in alternative assets. I was a bit surprised when he mentioned domain names as a potential investment.
I asked him for more information about this for Domain Name Wire readers. Keep in mind that domain name investments are risky, and I highly recommend seeking professional advice before investing retirement funds in domain names.
DNW: What benefits could a domain name investor reap from buying domain names through a retirement account?
Chisholm: It is a little-known secret that retirement accounts (IRAs, 401(k)s, etc.) can be used to invest in assets outside the stock market. Most people just assume that they need to invest in mutual funds or stocks with their IRA or 401(k). However, the investment options with your retirement account are virtually limitless.
The primary benefits of investing with your retirement account are that you have preferential tax treatment while the funds are held in that account. If you have a Traditional IRA, your contributions to that account are deducted against your income, and your assets will be tax deferred until you withdraw the funds. A Roth IRA allows you to contribute to the account after-tax dollars, and the money grows tax free. This happens regardless of what the investments are inside the retirement account.
If you wanted to invest in a domain name, active website, or affiliate site, you might want to consider using a retirement account to purchase the domain. Using a retirement account can potentially provide tax-deferred or tax-free income and growth of the value of that investment. While there are some strict rules that the investor would have to follow, a number of investors have successfully used domain names as their choice of investment for their retirement funds.
DNW: Obviously, you can’t do this through your Ameritrade or Fidelity account. What kind of firm do you need to work with to invest in domain names through a retirement account?
Chisholm: Correct, TD Ameritrade and Fidelity are not in the business of accepting alternative investments such as domain names in an investor’s self-directed IRA. They are legally allowed to accept domain names as assets, but they have chosen not to specialize in this asset class. They primarily specialize in publicly traded investments.
Investors who are interested in using domain names as an investment vehicle would need to find a self-directed IRA custodian who specializes in alternative investments. Finding a self-directed IRA custodian is challenging. There is a lack of reliable self-directed IRA industry-related information and resources for investors to use.
Our firm, Innovative Advisory Group, has created a number of self-directed IRA industry resources to help provide more transparent information for individual investors. One of these resources is an active list of self-directed IRA custodians and administrators. We track all self-directed IRA custodians so investors don’t inadvertently create a prohibited transaction by using a firm that is not considered a qualified custodian.
From this list of self-directed IRA custodians and administrators, you will have to locate the best firm for your needs. Each firm has their differences that you want to match up with your needs. For example, you will want to locate a firm that is willing to accept domain names as an asset, find one that has fees that are aligned with your investment strategy, and one with good customer service. All of these things are essential to optimizing the performance of your investment.
DNW: Let’s say I have a retirement account with an old employer. Can I roll this over to a new custodian and use the funds to invest in domain names?
Chisholm: Yes, this is a common practice where people consolidate their old employer 401k or 403b accounts into a self-directed IRA. This allows the investor to take control of their retirement funds. Most 401k plans limit the plan participant’s investment choices to a small selection of mutual funds. Once you roll your 401k into a self-directed IRA, you will have the choice to invest in any asset that is allowed by the Internal Revenue Code (IRC). One choice for investment with a self-directed IRA is domain names.
We have seen a wide variety of alternative investment ideas over the years. Some of the best ones are investments where the investor has a background expertise in that area. Peter Lynch made a very astute comment when he said, “invest in what you know.” If you are an expert in monetizing domain names for a profit, then why would you focus your efforts on investments that you may not have expertise in, like biotech, horses or real estate? Experts in domain names should focus their efforts in areas they know best to maximize their potential.
DNW: Are there any traps or cautions to consider before deciding to use a tax-sheltered retirement account to invest in domains?
Yes, there are a quite a few things to consider when investing in alternative investments in your self-directed IRA. Many of them depend on what the investment is and how it is structured. For example investing passively in a url would most likely have different requirements than if you were investing in an active website.
Ultimately the rules are the same for both traditional investments and alternative investments. The difference between the two types of investment is more noticeable with alternatives since processing the alternative investment typically requires more from the IRA owner than just entering a ticker symbol as is the case with equities and mutual funds.
Ideally someone investing in domain names should work with a professional attorney, accountant or financial advisor who is an expert in this area. It is highly likely that your local professional has not had experience in this area, so seek out someone who is experienced.
There are a few rules that investors should be aware of that affect most self-directed IRAs. First, investors need to be careful not to create a prohibited transaction. This is when the IRA engages in certain transactions with a disqualified person and violates the rules in the Internal Revenue Code.
Second is your Self-directed IRA cannot do business with a disqualified person. Disqualified persons are people who cannot transact with your IRA’s investment. Some of the disqualified people are: you, your spouse, your parent, grandparents and other lineal ancestors, your children, grandchildren, or other lineal descendants.
Third, investors should be aware that some investment strategies could cause the IRA to owe taxes. If you have ever owned a stock that was a MLP, you may have already experienced this surprise.
These self-directed IRA rules are clearly defined in the internal revenue code (IRC). However, in the IRC there are also exceptions to many of these rules. For example, you might not be able to own a website that you are actively work on in your self-directed IRA, but you may be able to own it in your 401k. Another exception is that while your IRA cannot do business with family members, your IRA can do business with a sibling. There are many other exceptions, but this is where working with an experienced professional is important.