Asset Location and Peter Thiel’s $5 Billion Roth IRA

A story has been making the rounds over the past few weeks profiling entrepreneur Peter Thiel. He is the owner of a Roth IRA worth approximately $5 Billion.

Yes, that’s Billion, with a capital “B.”

This article from ProPublica details how, in the late 1990s, Thiel purchased shares of PayPal for fractions of a penny inside a new Roth IRA and suggests the stock purchase was a sweetheart deal and may attract future IRS scrutiny. But that’s not what we’re discussing in this blog post.

Turning $1,700 into $3.8 Million in a Year

The initial $1,700 investment in PayPal was worth $3.8 million a year later. A few years later, eBay purchased PayPal. By the end of 2002, Thiel’s Roth IRA was worth more than $28 million. He went on to found a private company and purchased shares of this company in his Roth IRA.

He also made a very early investment in Facebook in his Roth IRA. The article continues to detail transactions that led to Thiel’s Roth IRA amassing a massive $5 billion balance in 2019.

Education on Roth IRAs

We’ve spent time writing about Roth IRAs and how they are different from traditional IRAs. JoAnn Huber, CFP® CPA, detailed the differences in episodes one and two of our podcast. Find episode one here and episode two here.

Benefits of the Roth IRA

The benefit to the Roth IRA is that once you make your initial deposit and satisfy the waiting period requirements, not only does the account grow tax-free, but money can generally be withdrawn tax-free in retirement. So Peter Thiel, who opened a Roth IRA with about $1,700 twenty-some years ago, could essentially draw out $5 billion tax-free, never paying a penny of tax on the growth of the investments.

It may be worthwhile to look at partial Roth conversions for retirees with large traditional IRA or 401(k) balances. This is a tax planning technique of moving money out of traditional IRAs and into Roth IRAs. Generally, the amount that is moved over to the Roth IRA is considered ordinary taxable income. So, this technique may make sense for someone headed towards higher tax rates in the future.

“IRA Abuses” and the Ultra-Wealthy

The authors of the ProPublica piece, and more importantly, some lawmakers, would suggest that the Thiel story is an egregious example of the ultra-wealthy bending the tax code to their will. The article mentions IRS officials calling out “IRA abuses” and Government Accountability Office investigators referring to “aggressive valuation tactics by private equity.”

Congress is Focusing on Retirement Accounts

Right or wrong, it’s clear that lawmakers have set their sights on retirement account owners, as well as future beneficiaries of retirement accounts. For example, the SECURE Act had overwhelming bipartisan support and eliminated the ability for beneficiaries of retirement accounts to take relatively small required minimum distributions. Under the new law, beneficiaries of retirement accounts, such as traditional IRAs, must now withdraw the entire balance within a decade of the original account owner’s death.

There are lawmakers today suggesting caps on the amount of money held inside retirement accounts. Previous proposals have suggested caps on Roth IRA balances of between $3.4 million and $5 million. These proposals were never signed into law and didn’t gain much traction, but perhaps they are a sign of where future legislation is heading.

Tax Diversification is Key

While we can’t predict what the tax code will look like in the future and how future changes will impact Roth IRA owners, it may be a good reminder that tax diversification can be just as important as investment diversification.

We’ve been working on a video highlighting a case study we completed on the importance of owning different investment accounts, and we should be releasing that video very soon.

A key takeaway is that $1 million in a traditional IRA is not equal to $1 million in a traditional IRA, a Roth IRA, and a taxable brokerage account in equal amounts. At least in terms of how much income is available on an after-tax basis in retirement.

If we knew exactly what tax rates would be in the future and could compare those to a client’s tax rate today, we would easily suggest the optimal type of investment account to use (traditional IRA vs. Roth IRA). But because we are not clairvoyants, we’d suggest a more conservative, diversified approach.

Asset Location is Critical

There is also the issue of which type of investment account is the right type of account to hold different investments. It’s a concept known as asset location, which we’ve profiled here in tip #6. Basically, certain types of investments are less tax-efficient than others, so it’s critical to examine your investments not only from an overall risk/reward relationship but also from a tax-efficiency standpoint. This level of analysis can lead to a decision-making process of owning high dividend-paying stocks in a tax-favored retirement account instead of a nonqualified brokerage investment account, increasing the portfolio’s after-tax return.

Is the Roth IRA Right for You?

Your financial goals are likely things like retiring in a few years or spending more time with the people you care about, and not amassing a $5 billion Roth IRA. That’s a good thing because we can’t promise similar investment results with your Roth IRA to Peter Thiel’s Roth IRA.

But what we can do is have a meeting between you and our team of CFP® Professionals and CPAs to build a financial plan that puts you on track to accomplish your financial goals. If you aren’t a client of ours, you can get in touch with us here or reach us by email at [email protected].

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Investment advisory services offered through Modern Wealth Management, Inc., an SEC Registered Investment Adviser.

The views expressed represent the opinion of Modern Wealth Management an SEC Registered Investment Advisor. Information provided is for illustrative purposes only and does not constitute investment, tax, or legal advice. Modern Wealth Management does not accept any liability for the use of the information discussed. Consult with a qualified financial, legal, or tax professional prior to taking any action.

Asset Location & Peter Thiel’s $5 Billion Roth IRA