When you take advantage of a ROBS transaction to rollover your 401k or other retirement funds to start a new business (or finance an existing business), it is not the same as taking a loan/borrowing from your 401k funds. Instead, you are investing your retirement savings in your own business by directing the 401k to by employer stock in your business–this is also known as an equity investment.
Because the Rollover as Business Startup or ROBS plan is not a loan, there are several important differences for the soon to be or existing business owner to understand, which encompass the following.
- When the the business owner borrows funds from his or her 401k plan to finance his or her own business, he or she is required to make 401k loan payments (including interest) on a set schedule. As a result, for a new or expanding business, taking cash out of the business to make loan payments can make it difficult for the business to succeed. On the other hand, 401k loan payments are not required if the entrepreneur invests his or her retirement money in his or her own business via a ROBS transaction.
- You can only borrow a set amount from a 401k. The IRS caps the 401k loan amount to 50% of the balance not to exceed $50,000; however, a ROBS Business Financing strategy allows you to invest all of your retirement funds in your business because it is a not a loan, so loan payments do not apply.
- In the case of a 401k loan, if the business fails, the loan must still be repaid, and if the business owner does not make the 401k loan payments he or she will owe taxes and penalties on the unpaid amount. On the other hand, in the case of a ROBS plan if the business fails/goes under, 401k loan payments do not apply because a Rollovers as Business Start-Up (ROBS 401k/PSP) is not a Participant 401k Loan.
Given these differences, the entrepreneur may prefer to rollover his retirement funds to fund his own his own business (ROBS 401k) instead of taking a 401k participant loan.