On June 24th, ProPublica’s Justin Elliott published an article entitled, Lord of the Roths: How Tech Mogul Peter Thiel Turned a Retirement Account for the Middle Class Into a $5 Billion Tax-Free Piggy Bank. The article immediately received a lot of attention, with the term “Roth IRA” (of all things!) trending on Twitter. I was particularly interested in the article because Mr. Elliott had contacted me several times over the prior weeks to ask my opinion about various technical legal and tax issues related to Roth IRAs that invest into “non-traditional” assets (i.e., investments that are not readily available on public markets). I have spoken with many reporters over the years (not to mention government officials), so this interaction with Mr. Elliott was not particularly groundbreaking. To be clear, when speaking with him, I had no idea that his article was going to be about Peter Thiel specifically – and, quite frankly, I didn’t really care – because, from a fundamental perspective, I’m just trying to bring a sense of “sanity” to the discussion of self-directed IRAs. This feeling of balancing the insanity on the internet with actual legal analysis is not born out of a know-it-all mentality, but rather from my experience dealing with clients (and reporters) that have been grossly mislead by incorrect information plastered online. In this vein, I have spoken with thousands of people (very intelligent people I might add) that swore to me that “I have done everything right with my self-directed IRA” – but come to discover that there were many significant legal and tax problems. When you think about it, this is very understandable because: (1) self-directed IRA investors are intelligent people who like to do “research”, BUT… (2) the federal laws governing retirement accounts are extremely specialized and complex. In short, I’m always a bit skeptical when I hear IRA investors say that everything is “compliant” – which is the same reason I’m skeptical that Peter Thiel’s Roth IRA is 100% free of legal problems.
When reading the ProPublica article, I was obviously curious about whether Mr. Elliott had used any of my commentary and/or quotes. In reality, my contribution was minimal – mostly because the article focused its outrage on the idea that Peter Thiel is ripping off the federal government, and thus, also the common man. However, I also saw numerous references in the article to “facts” (at least if I take ProPublica’s reporting and apparent access to confidential tax information as being 100% accurate) that raise significant questions about whether Peter Thiel’s Roth IRA remains legally valid. The purpose of this blog post is to discuss some of these potential legal problems.
[IMPORTANT NOTE: I do not represent Peter Thiel and I have no inside knowledge of his Roth IRA’s past transactions, other than what is described in the ProPublica article and other publicly available documentation. I have no way of confirming whether any of these legal problems for sure occurred and/or whether the IRS has previously examined any of them during an audit (side note: I can tell you from experience that clearing an IRS audit in no way implies “compliance”, but I digress). However, as a tax attorney that has worked exclusively with self-directed IRA investors for 16 years and has examined thousands of IRA investment scenarios involving “non-traditional” assets, I know with absolute certainty that I’m in a unique position to “issue spot” potential problems – which mirrors what I do for clients on a daily basis.]
First, a quick note regarding the concept of “prohibited transactions” within an IRA. The federal tax code has rules that state that if an IRA commits a prohibited transaction, the IRA is retroactively invalidated in its entirety to the year in which the first prohibited transaction occurred. This means that if a Roth IRA commits a prohibited transaction in Year 1 and then subsequently grows, all of that growth should be treated for tax purposes as if it’s occurring in the individual IRA Accountholder’s name, not within the Roth IRA (for example, the individual would owe tax when assets that were formally within the Roth IRA were sold for a gain). This extreme result makes monitoring the prohibited transaction rules extremely important for IRAs that are investing into non-traditional assets. Although the intricacies are insanely complex, in short, a prohibited transaction occurs when the IRA’s Accountholder (e.g., Peter Thiel) uses the IRA to financially interact with and/or benefit a “disqualified person”. The term disqualified person is also complex, but in Mr. Thiel’s case, it likely includes himself, certain family members, family trusts, business entities in which Mr. Thiel or family members own 50% or more, and certain business partners in these business entities.
Potential legal problems with Peter Thiel’s Roth IRA…
(1) Smart People + Human Nature. This might sound a little too obvious, but I have found that when a smart person (e.g., Peter Thiel) that understand a particular investment category (e.g., technology companies) starts thinking about investing their self-directed IRA, they naturally want to invest the IRA into assets that have some sort of relationship to themselves individually. This makes perfect sense because someone like Mr. Thiel trusts his own knowledge more than anyone else, which is human nature (and in Peter’s case, made great sense because he clearly was good at finding great companies). The problem is that having his Roth IRA interact with companies that he’s already affiliated (e.g., PayPal) has the potential to result in prohibited transaction problems. Mr. Thiel has presumably been directly or indirectly affiliated with hundreds of technology companies over the past 20 years – and, given the size of his Roth IRA and his obvious propensity for investing the Roth IRA into non-traditional assets, I’m skeptical that every single Roth IRA transaction steered clear of prohibited transaction problems. Remember, it only takes one mistake to invalidate the entire Roth IRA [side note: documents I have reviewed appear to say that Mr. Thiel previously had multiple Roth IRAs at a custodian called PENSCO Trust Company; it’s likely that he used multiple accounts in order to isolate the potential risk of a prohibited transaction within any one Roth IRA – which is a rationale strategy that is not uncommon for very large IRAs].
(2) Founders Shares of PayPal. The ProPublica article discusses how Mr. Thiel’s Roth IRA purchased “founders shares” of PayPal at a very low price. The article focuses on whether this purchase was intentionally made at a below-market price. For legal and tax purposes, that question is interesting because if the price was artificially low, the IRS could argue that Mr. Thiel “stuffed” value into his Roth IRA (essentially, he made an “excess IRA contribution” by shifting value from himself individually to his Roth IRA), which results in penalties, and the excess amount must be withdrawn. This “withdrawal” is important because if the Roth IRA started at $2000, basically every bit of the eventual $5 billion of growth occurred as a result of the excess contribution – which theoretically means that the entire $5 billion of growth occurred effectively in Mr. Thiel’s individual capacity, resulting in taxes along the way. However, putting this “stuffing” argument aside, I question whether Mr. Thiel had a tangible legal right to the founders shares prior to transferring that right to his Roth IRA. After all, the Roth IRA didn’t “found” PayPal, Mr. Thiel did. In my experience, the only reason a “founder” has a right to purchase “founder’s shares” is because they are agreeing to apply their personal expertise and daily labor to the new company. In other words, the founder’s shares are an individual perk of starting a company – and under the IRA legal principles, the IRA’s Accountholder’s (here, Mr. Thiel’s) individual rights and assets always must be kept 100% separate from his Roth IRA’s rights and assets.
In addition, I question whether at some point in time (even very briefly) Mr. Thiel owned more than 50% of PayPal’s stock individually – before then deciding it was wise to have his Roth IRA acquire some or all of those shares. If Mr. Thiel owned 50% or more of PayPal at the moment the Roth IRA acquired shares (presumably via a new issuance of shares from the company itself), then PayPal (as a company) would be a “disqualified person”, and thus, the interaction between PayPal and the Roth IRA would be prohibited. Alternatively, even if Mr. Thiel owned less than 50% of PayPal, if any part of the founder’s shares that eventually ended up in the Roth IRA were initially held by Mr. Thiel individually, that would be prohibited as well. Keep in mind that money does not need to change hands between Mr. Thiel and the Roth IRA in order for a prohibited transaction to occur – even the “exchange” of anything (e.g., a “right to buy”) between Mr. Thiel and his Roth IRA is prohibited. This is similar to how it’s a prohibited transaction to make an offer on a piece of real estate in your individual name and then immediately before closing on the property assign the right to buy to your IRA. The prohibited transaction rule specifically references a “sale or exchange” – i.e., no financial interaction needs to occur.
Finally, if Mr. Thiel was on the Board of Directors at PayPal at the time the founder’s shares were purchased by his Roth IRA, I question whether a so-called “fiduciary prohibited transaction” occurred. Tax Courts have stated that the IRA’s Accountholder (e.g., Mr. Thiel) is a “fiduciary” of his self-directed IRA because he has discretionary control over the IRA (i.e., he can tell PENSCO Trust Company what to do with the IRA’s assets). In addition, if Mr. Thiel was on the Board of Directors of PayPal, he owed a fiduciary duty to the company as well. This dynamic of being a fiduciary of the Roth IRA and a fiduciary of PayPal creates a potential fiduciary conflict of interest – which the IRS has argued is a “fiduciary prohibited transaction”.
(3) New Zealand Residence Visa application. The ProPublica article, while discussing Mr. Thiel’s application to become a resident of New Zealand, stated “Thiel transferred $749,967 to a bank in New Zealand, keeping it under the umbrella of the Roth.” This sentence caught my attention because I have had clients in the past that have proposed to me that their IRA could invest into a foreign country and one of the benefits of that investment would be that they would be granted residence status (or citizenship) in the foreign country. From an IRA legal perspective, the problem with this concept is that an IRA’s investments are not supposed to personally benefit the IRA’s Accountholder (or any other disqualified person) currently – rather, the only benefit is supposed to be in the future (when the IRA’s Accountholder takes a personal distribution from the IRA in his 60s, 70s, 80s, etc.). This is why, for example, it’s a prohibited transaction to use a self-directed IRA to purchase a vacant lot next to your house and build a driveway through the property – i.e., the IRA’s purchase of the property is not a direct financial interaction with a disqualified person, but it’s still prohibited because the disqualified person is benefiting from the transaction (either currently or at some point in the future). In the case of Mr. Thiel, using Roth IRA assets in order to bolster his New Zealand Residence Visa application provided him a personal benefit, and thus, was a prohibited transaction. [Side note: the paperwork related to Mr. Thiel’s New Zealand Residence Visa application was obtained by Matt Nippert of The New Zealand Herald in a public information request. In the paperwork, Jason Portnoy (Mr. Thiel’s financial representative) talks extensively about Mr. Thiel’s Roth IRA. I’m assuming for purposes of this blog post that the information Mr. Portnoy presented to the New Zealand government was accurate].
(4) Family Trust Company as Roth IRA custodian. The ProPublica article references that the IRA custodian of Mr. Thiel’s Roth IRA (presumably multiple Roth IRAs) shifted in 2019 from PENSCO Trust Company to Rivendell Trust Company, which ProPublica describes as a “family trust company”. A quick search online shows that Rivendell Trust is operated by many of the advisors that have worked for Mr. Thiel in the past. Presumably Rivendell Trust’s ownership is 100% in the hands of Mr. Thiel and/or business entities or trusts affiliated with Mr. Thiel. If that is the case, I question whether Rivendell Trust is a “disqualified person”. However, putting aside the potential prohibited transactions when the Roth IRA pays fees (e.g., custodian fees, management fees, etc.) to a disqualified entity, I would be concerned about the personal benefit to Mr. Thiel (individually) as well. If Rivendell Trust is holding a Roth IRA (or series of Roth IRAs) valued at $5 billion, I’m assuming that Mr. Thiel is individually benefiting in some way from that custodial relationship – e.g., fees paid by the Roth IRA for asset management. Conversely, if the Roth IRA is not being charged for custodian fees and/or asset management, I question whether a “stuffing” transaction is occurring [i.e., Mr. Thiel’s personally-owned business entities and advisors (who might themselves be “disqualified parties” by the way) are providing services that are of value to the IRA, but that value is just being left within the Roth IRA, maximizing growth even further]. In short, a “family office trust company” serving as a custodian of a Roth IRA belonging to one of the family members raises some IRA-specific legal concerns.
(5) Roth IRA’s connection to Clarium Capital. As I referenced above, I have looked over some documents related to Mr. Thiel’s New Zealand’s Residence Visa application. In one part, Mr. Thiel’s representative discusses the Roth IRA’s investments. He describes how, as of 2005, the Roth IRA’s primary investment was through “Clarium Capital, LLC”. Clarium Capital LLC was described as an “off-shore feeder fund” to Clarium LP, a hedge fund. Clarium LP was managed by Clarium Capital Management LLC, of which “Mr. Thiel is the 100% owner”. This means that Clarium Capital Management LLC was definitely a “disqualified person” (because Mr. Thiel owned more than 50%). From an IRA legal perspective, my concern here is that if the Roth IRA was invested heavily into Clarium Capital LLC, that would presumably result in more management fees (and carried interest) to Clarium Capital Management LLC. In turn, at a minimum, there could be a personal benefit to Mr. Thiel (individually) from his Roth IRA investing into Clarium Capital LLC (via more fees/carry stemming from Clarium Capital Management LLC). If a client of mine was proposing this sort of interplay between his Roth IRA and his hedge fund, I would be extremely concerned about prohibited transaction problems.
In summary, the above IRA legal problems are just a small sampling of the potential issues that Peter Thiel’s Roth IRA could have run into over the past 20+ years. Based on even a small sample size (i.e., the limited information I have access to), it seems that Mr. Thiel and his advisors were not shy about having his Roth IRA interact with business entities in which Mr. Thiel was interconnected. Does this mean that a prohibited transaction definitely occurred? I can’t say that for certain. I’m only trying to point out how the many potential “landmines” exist when an IRA (whether Roth or pre-tax) invests into non-traditional assets. Also, for those readers that are thinking, “well yeah Warren, but didn’t Peter Thiel hire the best legal minds in the world to help him stay in compliance?” I’m sure he has excellent people, but do we really think that when his Roth IRA was worth only $2000 back in 1999 that he was paying a high-priced IRA expert to provide an opinion on his Roth IRA transactions? I doubt it (and I will also note that based on my experience dealing with legal and tax experts across the country, there are very few people that truly understand this niche area of tax law). In fact, the ProPublica article has a quote from the former owner of PENSCO Trust Company (Tom Anderson) that states that Peter Thiel and his partners were not even aware that a Roth IRA was an option. Does that sound like investors that were well-informed of the IRA rules? Who knows, but I have my doubts.