Many entrepreneurs are using their 401k and IRA funds without paying taxes or penalties to buy a business through a rollover as business startup (ROBS 401k).
Rollover as Business Startup
Key Requirements
•Use retirement funds in a former employer plan and/or non-Roth IRA
•Use the funds to start or buy an active business (i.e. operating company providing goods and/or services)
•C-corporation
•Bona fide employee (e.g. 1000 hours per year)
ROBS 401k – Steps
Step 1: Incorporate C-corporation
Step 2: C-corporation sponsors 401k plan
Step 3: Rollover funds to 401k
Step 4: Invest 401k funds in the stock of the C-corporation
Step 5: C-corporation may use the funds for legitimate business purposes including to buy or start a business
Use ROBS 401K/IRA to Buy a Business
Top Compliance Rules & Considerations
#1 – The ROBS 401K-funded business must be operated as a C-corporation
- No exceptions – S-corporation/partnership is not allowed.
- The C-corporation must be an active operating company.
- The C-corporation may have subsidiaries.
#2 – Roth IRA Funds are not eligible
- Neither nondeductible (after-tax) IRAs nor Roth IRA funds can be transferred to the Business Financing 401k (ROBS 401k).
#3 – Roth 401k Funds must be held in a separate sub-account
- If Roth 401k, Roth 457 and Roth 403b are transferred to the “Roth Designated Account” sub-account of the Business Financing 401k (ROBS 401k), these funds must be held in a separate sub-account of your ROBS 401k.
#4 – Generally, can only use funds in a former employer plan
- While some exceptions apply, you typically can only rollover funds from an employer plan once you are no longer employed (separated from service) or 59 ½ or older.
#5 – The ROBS 401K fee can’t be paid with retirement funds
- The ROBS C-corporation can’t reimburse you and can’t payoff credit card used to pay the fee.
- You may receive stock personally in exchange for incurring this expense & in that case coordinate with your tax advisor to report as a business expense.
#6 –You must be a W-2 employee
- A 401k plan is for w-2 employees (not 1099-MISC independent contractors).
- Any reasonable compensation that you receive for work performed is reported as w-2 wages.
#7 – Income and expenses must flow through ROBS C-corporation
- The C-corporation must file a C-corporation tax return (e.g. 1120 at the federal level).
- Reasonable compensation may be paid to you as w-2 wages and any profits distributed to the owners in accordance with the ownership percentages (e.g. 401k for your benefit & you personally).
#8 – Your compensation must be reasonable
- You must wait to receive compensation until the C-corporation generating income to justify.
- Your compensation must be reported as w-2 wages – coordinate with business tax advisor.
- Your compensation must be reasonable (i.e. no more than what the company would have to pay someone else to do all of the things that you do).
#9 – The ROBS 401K can’t guarantee a loan to the ROBS C-corporation
- A loan to the business must be a commercial loan in the name of the C-corporation.
- You may personally guarantee the loan.
#10 – Your ROBS 401k funded business cannot do business with any other business that you or disqualified persons own.
- •ROBS C-corporation can’t interact directly or indirectly with another business that you own.
More Items to Know
- Funds from Inherited IRAs are NOT eligible to be rolled over to a ROBS 401k (unless inherited from spouse)
- No personal loans to the ROBS C-corporation
- ROBS C-corporation can’t own an S-corporation (consider if buying the stock of a business taxed as an S-corporation)
- If obtaining the name of the existing business as part of the purchase, you may wish to work with your business tax and/or legal advisors to include a provision in the purchase and sale agreement requiring the seller to take the steps needed to transfer the name to the ROBS C-corporation (e.g. as a post closing item since the name can’t be transferred until after the sale is complete).
Use ROBS 401K – IRA to Buy a Business – Top FAQs
Name of the ROBS C-corp
- QUESTION: I am using your 401k Business Financing plan to purchase the assets of an existing online marketing firm with a good reputation in the industry. It is very important that I can use the name of the existing business. Should the new ROBS C-corporation be registered under the name of the business that I am buying?
- RESPONSE: While the C-corporation won’t be able to be registered under the name of the existing business (since the name is already taken), you can work with your business tax/legal advisor(s) to ensure that the seller is obligated to take all steps to transfer the name as part of the sale (e.g. the ROBS C-corp could later change its name or adopt the name as a “DBA”).
Employer Identification Number (EIN)
- QUESTION: I am using ROBS 401K Business Financing to fund the asset purchase of a business from an unrelated person. Will my new C-Corporation take over the EIN of the existing target?
- RESPONSE: The EIN of the seller is tied to the entity and is not included with the assets that are acquired as part of the sale. Practically, speaking when a business buys another business the EIN of the new business needs to be updated throughout the business operations (e.g. new bank account, new merchant account, etc.).
Business Bank Account
- QUESTION: I understand that a bank account will be opened for the C-corporation. Will you open the bank account for me? Can I use the bank of my choosing?
- RESPONSE: Once the C-corporation is established, we will provide you what is needed to open a business bank account under the name & EIN of the C-corporation. You can open the account at the bank of your choice.
Startup Expenses
- QUESTION: Can I be reimbursed by Corporation if I pay for 1st month’s lease with personal funds?
- RESPONSE: (i) Any reasonable startup business expenses such as paying the first month’s rent, etc. that you incur with the nonretirement funds will be considered part of your personal investment for which you will receive stock in the company personally. (ii) Going forward, it is a good practice for all businesses (including those that were not funded with retirement funds) to pay for businesses expenses from the business account rather than using personal funds. It is acceptable to be reimbursed by the corporation for legitimate and reasonable business expenses paid with personal funds on an exception basis (e.g. meals, etc.).
Hold Real Estate in a Separate LLC
- QUESTION: I want to use a ROBS 401k to buy a car wash business including buying the real estate that will be used to operate the business. My attorney advised me that I should hold the real estate in a separate entity for liability purposes. Can I do that?
- RESPONSE: Yes provided that the real estate is held in an LLC that is a subsidiary of the C-corporation (and which LLC is not taxed as an S-corp because an S-corp can’t be owned by a C-corporation). Please note that if you intend to use the ROBS 401k as a down payment on an SBA loan the SBA rules require that the real estate is owned by the C-corporation (i.e. not in separate entity).
Do I need to hire a CPA?
- QUESTION: I am planning on using your 401k business financing to fund a franchise purchase. I’ve always done my own personal income taxes lately using TurboTax. Will I need to hire a CPA to manage the business taxes?
- RESPONSE: In order to satisfy the 401k business financing rules, the business must be operated as a C-corporation including filing applicable C-corporation tax returns (e.g. 1120 at the federal level). As such, clients find it essential to work with a CPA or other tax advisor to handle the business tax returns.
What happens if my deal falls through?
- QUESTION: I am looking to use 401k business financing to finance the purchase of an existing wine shop. This deal might fall through and now I am looking to buy a chocolate shop – is that ok?
- RESPONSE: It is certainly acceptable from a 401k business financing perspective if the C-corporation that is funded with your retirement starts or buys another business.
Buying Truck for Business
- QUESTION: I am using a ROBS 401k to buy an RV-towing business. I need to purchase a new truck with a larger towing capacity. Can I lease the vehicle in my own name and then transfer the vehicle to the C-corporation later?
- RESPONSE: No – you can’t transfer a vehicle that you own personally, and which vehicle is subject to financing to the C-corporation that is funded with your retirement funds. Instead, the C-corporation would need to buy or lease the vehicle.
Can I loan funds to the ROBS C-corporation?
- QUESTION: I previously funded a business acquisition via a ROBS 401K. I need an additional $50,000 to cover operating expenses. Can I lend these funds to the C-corporation?
- RESPONSE: No – if you invest additional personal funds in the business it must be structured as an additional stock purchase at fair market value at the time of the subsequent stock purchase.
Continue the discussion in our My Community where our Owners host a daily LIVE webinar where you can ask questions and you can post questions in our forums: ROBS 401K Business Financing forum
