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Starting a Business with 401K Funds
Do you have retirement funds that you would like to use to start or purchase a business? If the answer is yes, it is a possibility using a method known as a “Rollover As Business Startup" - or ROBS Plan.
What Is a ROBS Plan?
The ROBS Plan is a tax approved way for an entrepreneur to tap their Self Directed 401K account to use these funds for a new business. This is clearly a permissible type of investment, allowed by the US Department of Labor.
How To Buy A Business With 401K Funds
ROBS plans are promoted by franchise sellers all over the Internet and arranged by firms specializing in this type of retirement plan. ROBS firms charge a fee to establish a ROBS Plan for individuals and guide them through the process. This process does require the establishment of an individual self-directed 401K plan as well as the creation of a C corporation. The new corporation starts its own 401K plan, which must offer employees the option to also participate in the newly created 401Kplan. The new business owner then rolls over funds from an existing 401K - or virtually any other retirement account - into the newly created 401K plan.
Because the assets are moved from one tax-exempt vehicle to another, the business owners avoids taxes and penalties on these funds. The sole participant in the plan (e.g., the owner of the new C Corporation) can then direct the investment of the 401K account balance into a purchase of corporate stock in the new corporation. The transferred funds are used to either purchase a franchise or existing business, or establish a new business. This will create tax-free working capital for the new corporation.
Why ROBS Works
The major benefit of the ROBS approach is that it lets clients start out a business debt-free, thus increasing the chances of the business being profitable sooner. This eliminates the need for the new business to earn profits to pay off startup debt.
ROBS Plan Requirements
The ROBS plan establishment is complicated and needs to be guided by experienced advisors both in the setup of the plan as well as in the operation of the plan. A great deal of thought and planning should be undertaken prior to putting the retirement assets at risk of being lost in the operation of a business. There are many IRS rules and regulations that govern the plan that must be adhered to so that a penalty is not assessed.
Cautions For ROBS Plan
The ROBS plan may be legal from the Department of Labor, but it is not liked by the IRS and operates in a grey area of IRS codes and regulations. To keep a ROBS transaction legal, the business owner must follow the numerous IRS regulations and avoid engaging in any prohibited transactions. The penalties for not complying with the rules and regulations are significant. If the rules and regulations are not followed it can trigger excise taxes amounting to 110 percent -- or more -- in penalties.
Benefits of ROBS Plan
It is important to be careful to carefully follow all of the IRS regulations and also to operate the business so as to continually grow sales and profit. If this is all done correctly, a large asset is created for your retirement plan to be ultimately sold either as tax deferred income or if constructed properly, for totally TAX-FREE INCOME.
Ken Lindow, CPA
Ken Lindow, CPA and a former top Inc.500 CFO specializes in tax structuring of real estate investments, ROBS 401k plans for business investing and 401K self-directed tax plans for investment planning, as will and business strategy planning for new ventures and fast business growth.