Start-Up Growth Offers Self-Directed IRA Investors New Opportunities

Estimated reading time: 6 minutes

Self-directed IRA (SDIRA) investors have incredible opportunities to diversify their portfolios by investing in private equity or using private lending to invest in small businesses and start-ups. In February we looked at how entrepreneurial endeavors are booming post pandemic and the opportunities new businesses provide for investors. We’re so glad you joined us again to learn some start-up statistics and consider new ways to grow your retirement portfolio. 

Forbes magazine is credited with the first modern usage of the word “start-up” in 1976, and the idea itself even dates back to the 1500s. As an investor, you may have wondered what qualifies as a start-up, and you would not be the first person. While the word can mean different things to different people, the general definition is a young company that is trying to solve a problem or address a need in the market and eventually meet the need at scale. 

Famous start-ups include AirBnb, Uber, Canva, and even SpaceX. These types of start-ups that have valuations over 1 billion dollars are called “unicorns.” Although most start-ups are not destined to become “unicorns,” there are still plenty of investment opportunities for investors in the start-up space. Understanding more about the space and how you can invest in it, however, are key for self-directed investors who need to do their own due diligence. 

How Can I Invest In a Start-Up? 

Many start-ups pursue seed funding through venture capital. Venture capital is a subset of private equity that is focused on funding more risky investments such as start-ups and technology companies. As an investor, you can invest in venture capital with your SDIRA. While venture capital has been the primary funding for start-ups, more traditional private equity is also beginning to purchase established start-ups, and this shift is opening up more opportunities for investors to invest in every stage of start-up growth.

Private lending is another avenue for investing in the start-up space. While some start-ups use venture capital, self-funding and business loans account for a large percentage of start-up funding. If you know of someone starting a business, you have the option to use your SDIRA to help a start-up get started. Private lending allows you to use your SDIRA as a bank and loan funds to a project. 

As with all self-directed investments, you, as the investor, are responsible for doing your due diligence. Because start-ups are inherently more risky than some other investment options, learning what to look for in successful start-ups can provide investors with guidance as they pursue their options and look to diversify their retirement portfolios. 

So let’s take a look at what the numbers have to say about the world of start-ups and consider how this booming marketplace can provide new and exciting opportunities for SDIRA investors. 

Why Do Start-Ups Fail? 

Start-ups have a reputation for risk and failure, and that’s not a big surprise when we learn that about 90% of start-ups fail to become successful businesses. While some start-ups fail in the first year, almost 70% fold between years two and five. 

As with most things in life, there is no easy checklist to predict why a start-up might fail. But if we look closely, it is possible to see some of the trends of why start-ups might not succeed. 

Misreading market demand is the biggest reason that start-ups fail and it accounts for 42% of failures. Not surprisingly, running out of money is the second culprit leading to failure for 29% of start-ups. Team dysfunction is blamed for about 23% of start-ups failing. 

With rates like these, it might be tempting to think that this market is far too risky, but it turns out that some start-ups do turn into sustainable businesses and some even become “unicorns.” 

What Makes a Start-Up Successful? 

But is there any way to know which start-up will do well? The short answer is no, because it is impossible to predict if a business will succeed. But if we look at what makes some start-ups successful, we can start to see that some features seem to be tied to more successful start-ups. 

It’s no surprise that education and experience seem to be somewhat predictive of success. 82% of business owners that are successful shared that they have qualifications and the experience they need to run a company, and 95% of entrepreneurs have a bachelor’s degree. 

But experience is not everything. Even if a team has experience, start-up teams without passion or vision tend to be weaker and less successful. 

While the stereotype in the start-up world is that founders are often young, age may have some bearing on success as well. A study in 2018 found that start-ups started by someone 60 years old were 3x more likely to be successful than start-ups started by a 30-year-old. 

If one founder is good, research shows that two founders are better and increase the chances that a start-up will be successful because they are likely to have more funding and growth. And if a founder has already been at the helm of a successful business, their chances of being successful the second time around is 30% higher than someone who has never had a successful business. 

So What Does This Mean for SDIRA Investors? 

Over 5 millions applications for new businesses were filed in the U.S. in 2021. This not only set a record, but it also increased the number of small businesses and start-ups that investors can invest in. With businesses booming, the need for funding and investors is also growing. 

SDIRA investors have so many options when it comes to investing in this entrepreneurial boom. They can invest their retirement funds in almost any business sector through both private equity and venture capital. 

But if you are the type of investor who prefers to be more connected to your investment, private lending opens a world of opportunities. From helping a business get off the ground to providing loans for equipment or infrastructure as they grow, an investor can be a key player in helping start-ups and small businesses succeed. 

As you begin evaluating start-up and small business investment options, there may be a few questions you want to start with based on the research of what is more likely to lead to a successful start-up. 

• Is there demand in the market for this idea? 
• Does this team have enough education and experience to bring the idea to market? 
• Is this team passionate about this product and the market? 
• Are there any red flags about how the team works together?
• What kind of ongoing funding resources are available for this start-up as they scale? 

As an investor with a self-directed account, you know that doing your due diligence is a fundamental part of the investment process, and when it comes to risky investments like start-ups, it’s important to keep that in mind. It’s always a good idea to consult with your legal and financial counsel to make sure that your investment choices fit with your overall investment goals and strategy. 

But as we move into a future where start-ups and small businesses are being created and growing at enormous rates, this could be a future of growth and success for investors too. And using an SDIRA to grow your retirement account in a tax-advantaged way allows you to have even more control over the way that you reach your investment goals. If you have been thinking about investing with a self-directed account and you haven’t opened one yet, don’t hesitate to reach out to us for a free consultation to learn more about how you can invest with a self-directed IRA.