- Entity type that can establish: Any entity type (Sole Prop, LLC, S-corp)
- Repayment Required: Yes – monthly/quarterly payments, 5 year term, Prime+1%
- Employees Allowed: Owner-only business with no full-time w-2 employees
- Limit: 50% of the balance not to exceed $50,000
- Cost: Hundreds of dollars
- Entity type that can establish: C-corporation required
- Repayment Required: No – Equity investment
- Employees Allowed: Yes
- Limit: No
- Cost: Thousands of dollars
Here is a further breakdown of the two methods to use your 401k to start a business.
401K Business Funding/Startup Method 1:
401k Stock Purchase: Entails forming a C-Corporation for your business start-up ( or converting and existing business to a C-Corporation) that then adopts a 401k profit sharing plan. The new retirement account-ROBS 401k/PSP- then invests/buys stock in the C-Corporation.
The use of retirement funds to start or fund an existing business is not deemed a taxable distribution or a 401k participant loan and no dollar limits apply because the retirement funds are invested in company stock.
Virtually all retirement funds may be transferred to a business funding 401k (also known as a ROBS 401k/PSP).
Here is a list of retirement funds that may be transferred to a ROBS 401k/PSP
SIMPLE IRA, and
Note that ROTH IRA funds cannot be transferred to a 401k plan. Click here to learn more about this rule.
401k Business Funding/Startup Method 2:
Solo 401k Loan: Under this method, the self-employed business owner opens a solo 401k, then process a solo 401k participant loan and personally invests in his own business.
However, in order to take a participant loan from his or her solo 401k, the business owner first must qualify to open a solo 401k. As described in IRS Publication 560 (the publication that list the rules that apply to self-employed plans such as a solo 401k), in order to open a solo 401k self-employment is required and the business cannot employee W-2 employees other than business owners on a full-time basis. Those who meet these two requirements have the option to transfer former employer retirement plans as well as IRAs to a solo 401k, process a solo 401k participant loan and subsequently use the borrowed funds to fund the business. Because the business startup is funded with borrowed funds, the stock shares or other ownership interest are owned by the business owner not his or he solo 401k.
Solo 401k Loan Payback Period and Interest Rate
Borrowing from a solo 401k comes with restrictions, however, and because it is a loan it must be paid back. The solo 401k owner can borrow a maximum of 50% of his or her solo 401k balance not to exceed $50,000 for up to 5 years, and the solo 401k loan must be paid back with interest either monthly or quarterly.