The ROBS Solution, or the Rollover Business Start-up (aka Rollers as Business Startups), allows you to invest funds from your retirement account into a new business/franchise. You can remove funds from a Traditional 401(k) or IRA Plan. The funds roll into your business without paying early withdrawal penalties or taxes. There are several ROBS advantages afforded to you.
If you’re an entrepreneur, you’ll benefit in many ways by using the ROBS option. With the ROBS option, you:
Won’t take on debt
Remember, the ROBS Solution is not a loan, therefore there’s no debt to repay to a bank. So you don’t deal with high interest rates, or defaulting on the loan. All profits can be reinvested into the business to allow it grow faster, which is crucial for start-ups.
Won’t pay penalties or taxes
With the Rollover Business Startup Solution, you can withdraw funds from your retirement plan before 59 ½ and not be taxed or incur penalties. This is because of a special exemption under IRC 4975(d) to certain prohibited transaction rules. This exemption centers around ERISA Section 408(e). You can learn more about the legal foundation of the Rollover as Business Startup Solution in greater detail in our ROBS How it Works education page.
With the Rollover as Business Startup (ROBS) Solution, your business receives funding when it needs funding. It does not matter if your credit score is low, and typically other factors that may go against you aren’t considered. As long as you have a significant retirement nest egg, you can turn that into capital for your business venture.
ROBS Solution vs the Self-Directed IRA
Previously known as the Business Acquisition Solution (BACSS) at IRA Financial, the ROBS structure is a type of self-directed retirement solution, so you may wonder why not use a Self-Directed IRA?
If you withdraw funds from your Self-Directed IRA to invest in a business/franchise you will be personally involved in, you end up triggering the IRS Prohibited Transaction Rules. You are a disqualified person, thus you cannot use your retirement funds in a transaction you will benefit from. So, if you attempted to use the Self-Directed IRA to fund a new or existing business/franchise you will be involved in, you’re going to be hit with a huge tax bill and potentially penalties.
The ROBS solution is the only way that you, a disqualified person, can use your retirement funds to buy or finance a business. This is because the ROBS solution takes advantage of an exception in the tax code, known as ‘qualifying employer securities.’ This allows you to purchase stock in the C Corporation
Additional Benefits of Using a ROBS to Start a Business
There are a few more advantages of using the ROBS solution that we have yet to touch on. For example:
You Save Money
This is perhaps the most important benefit of using the ROBS solution. You can use the money from your retirement funds to invest in a business that you will have personal involvement in without paying tax on the early withdrawal. If you are under the age of 59 1/2, you will not have to pay the 10% early withdrawal penalty. The Rollover as Business Startup Solution offers incredible tax savings opportunities.
You Can Invest in What You Know
Not everyone understands what goes on within Wall Street. If you have your own reservations, you are not obligated to invest your money in Wall Street or traditional assets. With the ROBS solution, you can invest in a business you truly understand. If you feel more confident investing your retirement funds in yourself, the ROBS solution may be right for you.
Diversify Your Portfolio
After the 2008 market crash, many investors became wary of only investing in traditional assets, which is why so many turned to self-directed retirement plans. It allowed them to invest in traditional assets, such as stocks and bonds, but also nontraditional assets, like real estate, cryptocurrency or their own business venture, the latter made possible with the ROBS Solution. Keep in mind, when your investments don’t correlate, you have a greater chance of yielding higher returns.
You Can Earn a Salary
In order to participate in the 401(k) plan, you must be an employee of the C corporation. This allows you to earn a salary and be involved in the daily aspects of the business. It can be complicating to determine a reasonable salary for your position, but it is very crucial that you do not pay yourself excessively, because the excess pay will not be allowed as a deduction. Learn how to determine a reasonable salary for your position to stay IRS compliant.
Drawbacks of the ROBS Solution
As appealing as this structure may be for entrepreneurs, there are drawbacks to consider.
It is Risky: Most of your retirement funds are invested in a new business venture, which is extremely risky. Almost 50% of new businesses fail within the first five years, according to the Small Business Administration (SBA).
401(k) Plan: You must disclose the adopted 401(k) plan to all of the company’s employees. All contributions or benefits provided under the plan must not discriminate against lower compensated employees.
Fair Market Value: You must establish an independent appraisal to determine the fair market value of the business you are purchasing. The price cannot be less favorable than the price determined under ERISA Section 3(18). If there is no generally recognized market, the fair market value of the asset should be determined in good faith by the trustee or the named fiduciary according to the terms of the plans and in accordance the IRS and ERISA regulations.
While there are cons to consider, the pros of the ROBS solution can’t be ignored. If you believe this option is the best in starting or financing your business, our IRA specialists will set up your ROBS plan and fill out all the necessary paperwork for you. Contact IRA Financial Group today.
Did you know?
You need to use a C Corporation to do a ROBS solution.