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401(k) Business Financing | Rollover as Business Startup | ROBS 401(k) | Frequently Asked Questions

Can I use my retirement funds to invest in a new or existing business?

If structured correctly, yes. IRC Section 4975(c) includes a list of transactions that the IRS deems “prohibited”. However, Internal Revenue Code Section 4975(d) lists a number of exemptions to the prohibited transaction rules. Specifically Internal Revenue Code Section 4975(d)(13) lists an exemption for any transaction which is exempt from section 406 of the Employee Retirement Income Security Act of 1974 (ERISA) by reason of section 408(e) of such Act.

Section 408(e) provides that section 406 shall not apply to the acquisition or sale by a plan of qualifying employer securities (as defined in section 407(d)(5), provided that: (1) the acquisition or sale is for adequate consideration; (2) no commission is charged with respect to the acquisition or sale; and (3) the plan is an eligible individual account plan (as defined in section 407(d)(3)). A 401(k) plan fits in to this definition.

Pursuant to ERISA Section 406, the acquisition or sale must be for “adequate consideration.” Except in the case of a “marketable obligation”, adequate consideration for this purpose means a price not less favorable than the price determined under ERISA § 3(18), subject to a requirement that the acquisition or sale must be for “adequate consideration.” An exchange of company stock between the plan and its employer-sponsor would be a prohibited transaction, unless the requirements of ERISA § 408(e) are met.

Learn more: How to use retirement funds to invest in a business

What is Rollover Business Startups/401(k) Business Financing?

Rollover Business Startups (ROBS) also known as 401(k) Business Financing is a method of funding a small business or franchise using your retirement funds. In fact, Rollover Business Startups/401(k) Business Financing is the only legal way to use your retirement fund to invest in yourself without incurring tax penalties. 

If my new company will not have any full time employees other than myself can I still use the structure?

Yes. In fact, the administration of the Plan will be much easier if your business will have no employees other than yourself since you will not require the services of a third-party Plan Administrator or record-keeper. If you elect to purchase new company stock along with your new 401(k) Plan, as the sole employee of the Company, you could serve as the Plan’s trustee and administrator.

What are the benefits of Rollover Business Startups/401(k) Business Financing?

Tax Savings – If you plan on using retirement funds to invest in a business, you could simply withdraw the funds. However, you will be hit with a huge tax bill and may owe penalties. All contributions to traditional plans are tax-deferred. This means you will owe taxes on all distributions. If you were to take a large sum of money to invest in a business, the tax hit will be enormous. Further, if you are under age 59 1/2 when withdrawing from the plan, you will be hit with a 10% early withdrawal penalty. Using the ROBS solution allows you to take distributions tax- and penalty-free!

No Debt – When using a ROBS for your business, you won’t incur debt. ROBS is not a loan, so there’s no money to pay back to a bank. No high interest fees and no chance of defaulting. Therefore, all profits can now be reinvested into the business to make it grow faster.

No Credit Check – Speaking of a bank loan, there’s no need for a credit check when using ROBS. Securing a traditional loan is hard for many people. While you may have plenty of savings in your retirement account, you might not have the credit-worthiness to obtain a loan.

Invest in Yourself – Why bet on the stock market or other investment vehicles when you can invest in yourself? Take control of your retirement by going into business for yourself. This way, it’s up to you if you fail or succeed.

Earn a Paycheck – In order to participate in the 401(k) plan, you must be an employee of the C Corporation. This gives you the advantage of earning a salary AND being involved in all aspects of the business, including decision making.

What type of entity do I have to use for Rollover Business Startups/401(k) Business Financing?

The Internal Revenue Code and ERISA law require the use of a “C” Corporation for using retirement funds to acquire stock in a business. The reason for this is that Section 407(d)(1) of ERISA defines the term “employer security,” in part, to mean a security issued by an employer of employees by the plan, or by an affiliate of such employer. Under section 407(d)(5) of ERISA, the term “qualifying employer security” includes an employer security, which has been understood to mean stock. The term “stock” is not defined in Title I of ERISA, however, most tax commentators believe this to mean the stock of a corporation and not an interest in a limited liability company or partnership. The use of an S Corporation for this structure is not permitted because a qualified plan cannot be an S Corporation shareholder. Generally only individuals are permitted to be S Corporation shareholders.

What is a C Corporation?

A C Corporation is a business term that is used to distinguish this type of entity from others, as its profits are taxed separately from its owners under sub-chapter C of the Internal Revenue Code. A C corporation is owned by shareholders who must elect a board of directors to make business decisions and oversee policies. A C Corporation provides its shareholders with limited liability protection. Thus, the C Corporation’s shareholders would not stand personally liable for debts incurred by the C Corporation. They cannot be sued individually for corporate wrongdoings.

Read More: What is a C-Corporation?

Can I serve as the company’s plan administrator and record-keeper?

It depends on whether your new business will have any employees other than yourself. If you will be a part owner of the business and the sole employee, you can serve as the Plan’s sole administrator and record-keeper just like you would in a Solo 401(k) Plan. However, if your business will have full time-employees, you can still serve as the plan administrator and then just hire a third-party record-keeper firm, like IRA Financial Group, to handle your plan administration.

If my new company will have full-time employees, is the company required to offer each full-time employee the right to participate in the company’s new 401(k) Plan?

Yes. In fact, under ERISA law, all employees of the company must be allowed to roll money into the Plan and must be given the same investment options. Internal Revenue Code Section 401(a)(4) provides that, under a qualified retirement plan, contributions or benefits provided under the plan must not discriminate in favor of highly compensated employees (HCEs). As a result, it is imperative that all employees of the new benefits are notified of the new 401(k) Plan and provided with the same contribution and investment options. In general, all employees that work at least 1000 hours during the year must be offered plan benefits.

Do I need to use a special financial institution to open the 401(k) plan bank account?

No. You can use any bank (i.e. Wells Fargo) or traditional financial institution (i.e. Fidelity, American Funds, etc..) to open your new 401(k) Plan bank account. The IRA Financial Group has close working relationships with a number of the largest financial institutions, such as Wells Fargo and American Funds, to ensure that your new 401(k) Plan bank account bank is opened correctly and quickly. The retirement tax professionals at the IRA Financial Group will guide you through this process to assist you in opening your new 401(k) Plan bank account.

What services does IRA Financial Group offer for Rollover Business Startups/401(k) Business Financing?

IRA Financial Group was founded by a group of top law firm tax and ERISA professionals who have worked at some of the largest law firms in the country, including White & Case LLP and Dewey & LeBoeuf LLP.
In developing our structure, our in-house retirement tax professionals have carefully examined and researched IRS and Department of Labor guidance to design a structure that is fully compliant with IRS and ERISA rules. Each client of the IRA Financial Group is assigned an individual retirement tax professional who will help customize a structure that satisfies his or her financial and retirement needs while ensuring the structure is developed in full compliance with IRS and ERISA rules and requirements. Our services include:

Establishment of “C” Corporation including Filing Fees;
Filing LLC Articles of Incorporation with the state;
Application for Corporation EIN;
Drafting all required initial corporate resolutions and minutes;
Drafting of customized Stock Purchase Agreement;
Drafting of customized Employee Stock Purchase Agreement;
Free consultation with in-house retirement tax professional on the ROBS structure;
Adoption of 401(k) Plan;
Basic Plan Document;
EGTRRA Amendment;
Summary Plan Description;
Trust Agreement;
Appointment of Trustee;
Beneficiary Designation;
Application for Plan trust EIN;
Assistance in the establishment of business and 401(k) Plan bank accounts;
Assistance with the transfer of funds to your new 401(k) Plan bank account;
Assistance in coordinating the completion of all IRS required information returns
Assistance in coordinating the acquisition of an independent business appraisal;
Free consultation with in-house retirement tax professionals on the ROBS structure;
Tax support on ROBS and the 401(k) Plan; and
Annual compliance review
Third-party plan annual record-keeping

We have developed a process that ensures speed and compliance, by using standardized procedures that work via phone, e-mail, fax, and mail. Your funds will typically be ready for investment into your new or existing business within 14-21 days.

Can my new company pay me a salary?

Yes! In fact, per IRS Rules you will need to be an employee of your new business, providing a bona fide service. You may not earn compensation income before the company is actively engaged in a trade or business. In addition, your compensation must be derived from the revenues generated from your business not from the sale of corporate stock. 

What is the maximum amount of salary I can earn from the new company?

As an employee of your new company you are entitled to draw a fair and equitable wage. The compensation you earn must be “reasonable” and you are encouraged to survey similar businesses to determine market salary for your position or visit one of the salary evaluation sites available online. Our in-house retirement tax professionals will assist you in this regard to help you best determine “reasonable” compensation for the position you will be holding with the new company.

Can a family member or spouse co-invest or work for the business?

Yes – you or any family member may invest or work for the new company. The exemption to “prohibited transactions” found under Internal Revenue Code Section 4975(f)(6)(b)(2) permit ownership or investment in the new company by any family members, friends, or colleagues.

Can I borrow funds from a bank or third-party for my new business?

Yes. Just like any company, your new company will be able to borrow funds from any financial institution or third-party to help finance your business. The borrowing of funds will not trigger a prohibited transaction under Internal Revenue Code Section 4975.

Is Rollover Business Startups/401(k) Business Financing difficult to administer?

Not at all. IRA Financial Group has developed a process that ensures speed and compliance, by using standardized procedures that work via phone, e-mail, fax, and mail. Working directly with our in-house tax and ERISA professionals, your funds will be ready for investment into your new or existing business within 14-21 days.

After reviewing a number of business acquisition structures that have been promoted by our competitors, in 2008, the IRS became concerned that the structures were not being properly established from an IRS and ERISA compliance standpoint. While having these compliance concerns, the IRS has always maintained the position that this type of structure is perfectly legal and not considered an abusive tax avoidance transaction. In the “Memorandum”, the IRS highlighted a number of compliance areas, which they believed were not being adequately followed by the promoters implementing the structure at that time.

While our competitors were promoting this type of structure, which in many cases failed from a compliance standpoint, the IRA Financial Group’s in-house retirement tax professionals spent years reviewing IRS materials and guidance in order to develop the 401k Business Financing and Support Structure, in conjunction with ROBS. It was designed to satisfy each non-compliance issue address by the IRS in the “Memorandum” in order to offer our clients an IRS and ERISA compliant structure for using retirement funds to acquire or invest in a business tax free!

Is there an annual fee?

In order to ensure the structure remains in compliance with the IRS and ERISA rules, IRA Financial Group requires all of its clients to use our annual tax compliance and record-keeping service. Our monthly fee includes tax advice on the structure and the 401(k) plan, as well as the delivery of new plan documents to remain compliant. IRA Financial Group will also help you with ERISA plan testing, the filing of IRS information returns, as well as the attainment of the business appraisal. 

Read More: Rollover Business Startups Compliance Rules

What are the cons of Rollover Business Startups/ 401(k) Business Financing?

Failure – According to the Small Business Administration, about half of all new businesses fail within five years. Therefore, the biggest risk with ROBS is losing most, if not all, of your retirement savings due to a failed business venture. It’s imperative to make sure your business succeeds!

Audit – After performing a ROBS, the IRS might look at you a little more closely. The chances of an audit are still slim, however they do increase. So long as you have a good facilitator (such as IRAFG), you should be okay even if the IRS starts looking into you.

Losing out on Potential Gains – Once you move your money out of your current retirement plan, it’s no longer earning money for you. Great years in the Stock Market can yield 10-15% earnings. Additionally, you lose the power of compounding. On the other hand, during a down year, you won’t lose money either.

Related: Top Businesses Using Rollover Business as Startups