Rollover as business startups, also commonly referred to as ROBS for short, are a type of plan where an individual can use their retirement funds to start a new business. This can be a confusing process to keep everything legal, however, it can give you the funding you need.
It’s important to realize that you are putting your retirement fund at risk if the business were to go south. Before you make a decision to put up all your retirement funds for the gamble, it’s a good idea to understand the full process.
How Do Rollover As Business Startups Work?
When you have a retirement account setup, you can rollover that account into different investments. For a ROBS, an individual can use their 401(k) or other retirement accounts as investment money. With the assistance of an attorney or ROBS service provider, you can rollover your retirement money to an investment in a new or existing business.
From a legal standpoint, the process goes like this:
- You form a new business as a C corporation, which is basically a type of business structure that allows you to have shareholders.
- You set up a 401(k) plan for your new C corporation business.
- You roll your existing retirement accounts into the 401(k) of the new C corporation.
- Use the funds from the new 401(k) to buy company stocks or shares. The money that the company makes selling shares gets used as cash to invest in the business itself.
This is a long-winded process that makes it legally possible to use your retirement savings to start a new business or franchise. Now that you have an idea of what rollover as business startups are and how they work, let’s dive into the advantages and disadvantages of using this financial strategy.
When considering any financial strategy, it’s a good idea to take a look at any of the disadvantages first. This will help to instill the risk in your mind before you move onto the benefits.
Your Retirement Is On The Line
Everyone tells you to start saving for retirement early because the sooner you start, the more you have. Retirement is typically funded for at least thirty to forty years before it is used. Needless to say, it’s hard to come up with the amount of money you will need to fill your retirement account on a whim.
For this reason, the biggest disadvantage to ROBS is putting your retirement at risk of loss. If the business goes bust, your company shares are worth nothing. This means your 401(k) or other retirement funding is gone.
Your Business Must Be A C Corporation
You don’t get any wiggle room in the type of business structure that you want to file for. With this financial strategy, you are limited to a C corporation structure only.
Paying An Advisor Or Attorney Can Be Expensive
In order to go through the ROBS process, you will need the help of a financial advisor or attorney that is familiar with this process. This comes at a high fee and many advisors will charge a monthly maintenance fee for keeping up with the tax forms you need. This money has to be paid out of pocket, as you can’t withdraw the money from your retirement account to pay these fees.
Now that you know what the disadvantages are of using this type of financial business strategy, it’s time to look at the brighter side.
Alterative Business Funding
Although it’s highly advised to exhaust all other options when it comes to financing a new business, some people just can’t get approved for the financing they need. Startup business loans typically require a strong personal credit, collateral, and other major factors. ROBS allow for an alternative business funding source that allows anyone with a retirement the opportunity to become an entrepreneur.
One major advantage to ROBS is that you don’t have to take on any additional debt. This program isn’t a loan because you are using the money you already have. There are no monthly payments you have to make or any interest fees you have to pay. This allows you the freedom to invest proceeds from the business right back into itself to grow much faster.
No Early Withdrawal Penalty
When you withdraw money from your 401(k) or IRA before you are of the legal age to do so, you must pay a 10 percent early withdrawal penalty. With ROBS you don’t have to pay an early withdrawal penalty because your 401(k) is legally still setup at the new company. Through this process you are not withdrawing money from your 401(k) account, rather, you are investing that money in stocks of your new company.