What is a ROBS Rollover?
ROBS is the acronym for Rollover as Business Startup. It is a financial means for a prospective business owner to use their own retirement funds to pay for costs associated with starting a new business. These retirement funds can be from a personal 401(k), 403(b), 457(b) or an individual IRA. However, keep in mind that Roth funds are not eligible for a ROBS rollover. A ROBS financing plan uses rollover assets from your retirement plan, in a tax-free transaction, to purchase the stock of your new business’s own C Corporation business. The stock can then be sold for cash, to invest in the new business.
How does a ROBS Rollover work?
Of course, you will want to do plenty of research, talk to a specialist, and determine if you want to roll over your retirement in order to start a business. Talking to our experts at Collin SBDC is a great start. Here is a basic idea of how a ROBS Rollover works:
- A C Corporation is formed for the new business. (C-corps are businesses that allow stockholders.)
- A new 401k plan is created for the new business.
- Your retirement monies are rolled over, into the new business 401k and are used to purchase stock in the new business C-Corporation.
- A roll-over allows you to forgo paying taxes on your 401k earnings.
- The sale of the stock from the new C-Corporation gives the owner the cash that can now be invested in the business.
- These funds must be used for the startup and initial operating costs of a new business.
Why should I consider using my 401k to start a new business?
Many new business owners do not want to take on debt that they have to repay with added interest, either from an SBA Loan or from another lending institution. Other potential new business owners lack the appropriate credit score, capital, or funding required to get a loan. ROBS rollover funds can be obtained easily and quickly, when compared to a conventional or SBA Loan and the lack of interest and few penalties makes them a very attractive funding option.
What are the benefits of a ROBS rollover?
There are several distinct advantages for using your retirement proceeds to fund your new business:
- Avoid a Tax Penalty: You are not withdrawing the funds. The cash you receive is from the proceeds of sale of your stock to your 401K plan. The great news for those who are under 59 ½ years of age: you avoid the 10% early withdrawal penalty, and the taxation of the distribution.
- No new debt: You will not be taking on new debt that needs to be repaid with interest.
- Great alternative financing: Potential business owners who otherwise would not qualify for a loan have an alternative.
- Quick cash infusion: Can receive funds for your business in a few weeks, instead of months.
How do I know if I can use my retirement plan to fund my business?
The IRS has a few qualifying factors you should be aware of before deciding to use a ROBS rollover. Things to keep in mind are:
- There is a limit to how much of your retirement fund(s) you can rollover and you must have at least $50,000 in your retirement fund.
- You have 60 Days to roll over your old 401k to a new C-Corporation 401k.
- You cannot roll over an unqualified plan, such as a ROTH IRA.
- ROBS rollovers cost money to set up and then usually have a monthly maintenance fee.
- Rollovers need to be done by a qualified financial group that specializes in ROBS rollovers. We at the Collin SBDC, recommend:
- Cannot use the money for your personal place of residence.
- You must be an employee of the new business and receive a salary.
- New business must operate as a C-Corporation.
It sounds great, but what is the “catch” in a ROBS rollover.
ROBS rollovers are a great financing tool for specific business start-ups. It’s important to know the following “Rules and Regulations” of a ROBS rollover:
- Retirement Risk: If your new business fails, you run the risk of losing the money you had planned for your retirement.
- Loss of retirement earnings: Once you rollover your 401k, you lose the potential for it to make additional money in the open stock market with tax-deferred savings.
- Your business must run as a C Corporation, which has different tax rules than an LLC or a sole proprietorship.
- The money you obtain from a ROBS rollover can only be used to fund an “operating” business.
- Higher Risk of IRS Audit: The IRS will look at all ROBS rollovers and how the money is utilized. It is important to use a company that specializes in these types of retirement conversions for business funding.
Do I need to pay back a ROBS rollover?
A ROBS rollover is not a loan, so technically speaking, you do not have to pay back a ROBS rollover – ever. However, it is still a good idea to participate in a retirement plan or 401k. The good news is you will have created a company 401k with your new C-Corporation in which you and your employees can invest.
At the Collin SBDC, we can help individuals and businesses in Collin and Rockwall County with how to start or fund a small business. To find out if you qualify for our free service, you can fill out the form HERE.
For additional resources on ROBS Rollovers, how to use your retirement fund for a new business and how to apply, please contact our experts at the Small Business Development Center – SBDC – serving Collin and Rockwall Counties, Texas.
*Blog by: Steve Shalosky