Pricing the UBIT on a 58 percent levered fund before committing Roth money

Six months of no deals, but I've finally got a real decision instead of a spreadsheet.

Roth self-directed IRA, 168k. A value-add fund I've been tracking is open for another five weeks. Minimum 100k, I'd do 150k. Fund level debt at 58 percent LTC, targeting a five year hold, distributions quarterly starting month 14.

Sponsor sent three years of prior fund K-1s when I asked, which I appreciated. Box 20V on the two stabilized years came back at 340 and 890 per 100k invested. Year one was negative. So on 150k I'm looking at maybe 1,300 of UBTI in a normal year, which is barely over the filing threshold and would cost me a few hundred in tax plus whatever the 990-T prep runs. Call it 800 all in per year, against roughly 9,000 of pref. Under 10 percent drag.

Exit is what I can't model. If the fund sells at a 40 percent gain on a 58 percent levered basis, a big chunk of that gain comes through as debt-financed in the year of sale, and it hits trust rates that top out fast. I've seen people say the average debt over the prior twelve months is what matters, and that sponsors sometimes pay debt down before a sale for exactly this reason. This sponsor's PPM says nothing either way.

So: do I ask them to commit in writing to a paydown, knowing they'll say no? Do I size down to 100k so the exit-year bill is smaller? Or is 150k in a Roth still the right home for this and I'm optimizing a rounding error?

1 reply

5aliyah_bAU2APRO6

You're not optimizing a rounding error, you've just got the drag in the wrong period. The annual number is small and predictable. The exit year is where the money is, and your own framing shows it: five years of 800 is 4,000, and a single levered exit on 150k can be several times that in one filing.

On the paydown question, don't ask them to commit. They can't, and asking makes you look like you'll be a difficult LP. Ask a different question: on the prior fund's dispositions, what did box 20V look like in the sale year, per 100k? They already sent you three years of K-1s, so they clearly keep the records. If they had exits in that fund, the number exists. If they dodge, that tells you they either didn't track it or don't want tax-exempt investors asking.

The averaged-acquisition-indebtedness point you half remember is real, the calculation looks back over the twelve months before disposition, and how it applies to a fund-level structure is genuinely a CPA question. Get one who's filed 990-Ts before you wire, not in April.

Sizing down to 100k doesn't change the drag rate, it just shrinks the whole position. If you like the deal you like it at 150. What I'd actually do with your 168k is decide whether the Roth is the right pocket at all. Tax-free compounding on a levered deal is worth less than tax-free compounding on unlevered note interest, because the note interest keeps all of it. If you've got taxable dollars available, the levered fund may belong there and the Roth may belong in paper.

What's your taxable side look like? You never said.

Pricing the UBIT on a 58 percent levered fund before committing Roth money

1 reply