What you need to know about investing retirement savings in your new business.
Starting a small business takes money — and so does buying a new one. If you’re having trouble getting the funds and have more than $50,000 in retirement savings, you might want to look into a Rollover for Business Startups (ROBS) arrangement.
This option allows you to invest your retirement funds in your business without paying any taxes, fees or interest. A ROBS isn’t available for all businesses, however, and it puts your retirement on the line.
What exactly is a ROBS arrangement?
A ROBS arrangement allows business owners to take funds from their retirement account and invest it — or “roll it over” — in their business. Since it’s not a loan, you don’t have to repay it. And since you aren’t technically withdrawing from your account, you won’t have to pay any income taxes or fees.
ROBS are popular with franchise owners, perhaps because of the common belief that this business model is less likely to fail than an independent startup — though that’s not necessarily true.
ROBS might be inexpensive up front, but they come with significant risks — you could lose a large portion of your retirement savings. They’re also not available to all business types and are typically more complicated than other financing options. Setting up a ROBS involves forming a C corporation, creating a retirement plan for your new business, moving funds from your retirement account to the new company account and then using those funds to buy stock in the corporation.
After you set it up, the IRS has several rules that your business needs to follow. If you slip up, it could result in hefty fines. That’s why business owners typically hire an outside company, or provider to oversee the transfer and provide support after. This can set your business back between $4,000 and $5,000.
Do I qualify for a ROBS?
Not every business or owner qualifies for a ROBS. You must meet these four requirements at the very least, though your provider might have other requirements.
Have an eligible retirement account
To be eligible for a ROBS, you must have a tax-deferred account — meaning that you don’t pay taxes until you withdraw from it. Some common tax-deferred accounts include:
- Traditional IRA
- 401(k)
- TSP
- SEP
- 401(3)
- Keogh
Roth IRAs and Roth 401(k)s aren’t eligible for a ROBS. Also, you generally can’t use an account set up through your current employer — most won’t let you roll over your funds.
Have at least $50,000 in retirement savings
While this isn’t a legal requirement, using an account with less than $50,000 isn’t worth the cost. Also, most providers won’t work with accounts that have less than $50,000, meaning that you might have to do it yourself.
Start a C corporation
C corporations are type of tax status for corporations. Your business must have this tax status to be eligible for a ROBS.
How do C corporations work? They pay taxes on their annual revenue before their shareholders get their cut of the business. The shareholders then pay income tax on the already-taxed money they receive. New corporations are C corporations by default. To save on taxes, some file to become S corporations, which only pay taxes after shareholders get their funds.
C corporations might pay more taxes than S corporations, but they have less restrictions. For example, the IRS has no limits on how large a C corporation can grow, how many different classes of stock it can issue or the nationality of its shareholders. C corporations are also the only type of business entity that’s eligible for a ROBS.
Corporations, LLCs and other business structures explained
Be an employee of your new business
In other words, you have to actually work for your business, rather than just be a shareholder. And you can’t just put in a few hours a week. You need to be eligible for your business’s new retirement plan, which might require you to earn a certain income or work a minimum number of hours.
Where can I get a ROBS?
You can always roll over your funds yourself. But most business owners find that impractical and risky — the IRS has some complicated requirements and using a ROBS makes you more likely to get audited. Here are several providers that can help your business set up a ROBS.
| Provider | Who it’s for | Cost to set up | Maintenance fee |
|---|---|---|---|
| Guidant Financial | Startups that want legal and technical support and want to apply for other types of business financing in the future. | $4,995 | $139 a month or $3.33 per employee if your business has more than 10 employees |
| MySolo401k | Startups looking for the most affordable ROBS option. |
|
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| FranFund | Anyone looking for a ROBS or combination of ROBS and SBA loans to fund a new franchise. |
| $130 a month |
| Benetrends | Startups looking for a highly experienced provider. | $4,995 | $130 a month |
| Catchingfire Funding | Entrepreneurs who want to fund a new business with a 401(k). | Varies | Varies |
How to set up a ROBS step by step
Generally, business owners follow these steps when setting up a ROBS:
Step 1: Compare providers
When you set up a ROBS, you’re technically taking advantage of a tax loophole. To avoid paying unnecessary fines, consider going with an expert. You can get started with the table above by considering the following factors:
- Setup costs. Most ROBS providers have an upfront cost of around $4,000 to $5,000.
- Fees. Many ROBS providers also charge a monthly or annual maintenance fee. Some also offer discounts, depending on how many employees you have.
- Services. Does the provider just set up your ROBS or does it offer other types of technical or legal support?
Step 2: Set up a C corporation
Your business must be a C corporation to set up a ROBS. You can do this by registering your business’s name with your state, filing a certificate of incorporation or articles of incorporation and paying a fee. The state agency you need to register with varies by state.
Once you’re registered, you need to draft corporate bylaws and hold at least one board of directors meeting. You also need to apply for an employer identification number (EIN). Your ROBS provider might be able to help you set up your C corp.
Step 3: Create a retirement and profit-sharing plan
The next step is to create a retirement plan that you and other eligible employees can sign up for. You can do this by creating a Retirement or Profit-Sharing Plan Adoption Agreement, in addition to a Plan Administration Agreement. Your ROBS provider is often able to help you with this step.
Some ROBS providers can help you find a company to manage your retirement account, though not all do.
Step 4: Roll over your funds
Now that you have your retirement account set up, you can start to roll over your funds from your old account into your new retirement account. You must roll over at least $50,000 for it to count as a ROBS. There’s no maximum amount you can roll over, however.
Step 5: Sell stock to your new retirement plan
The next step is to sell your company’s stock to your new retirement plan. You don’t need to sell all of it to your retirement plan — just enough to cover the costs you want to use your ROBS for. For example, if you wanted to cover half of your startup costs with a ROBS, you’d need to sell 50% of your company’s stock.
Once you’ve sold the stock, your company can use those funds however it needs.
Benefits and drawbacks to consider
Pros
- No interest. If you do it on your own, you won’t have to pay anything for this form of business financing.
- No income tax. While you normally have to pay income tax before accessing your retirement funds early, ROBS gives your business a loophole.
- No impact on credit. In fact, your credit score doesn’t matter at all when setting up a ROBS. Neither do other typical eligibility requirements like time in business or revenue.
- You control your retirement funds. Since you’re investing your retirement plan in your business, your own business’s performance determines how well it does.
- No early withdrawal penalties. Setting up a ROBS is one of the few times that you’ll be able to access your retirement funds without paying hefty fees.
Cons
- You could lose your retirement funds. New businesses are risky. By using a ROBS, you’re staking your future on the business’s success, which is difficult to predict.
- Increases your chance of getting audited. While most businesses aren’t audited, taking out a ROBS increases your chances — ROBS come with a lot of compliance standards that your business needs to meet.
- Providers are expensive. Even the least expensive ROBS provider can set your business back over $3,000 for the setup and at least $130 a year.
- Must be a C corporation. Using a ROBS makes your business ineligible to save on taxes by becoming an S corporation. This also means that you can’t use a ROBS on an LLC, partnership or sole proprietorship.
- Relatively slow. It can take between two and three weeks to set up a ROBS, making it less than ideal for emergency business costs.
- Complicated to set up. While you can set up a ROBS on your own, it’s risky. Hiring a ROBS provider can make this much easier, though it can be expensive.
Alternatives to ROBS
There’s a chance you don’t have enough money in your retirement account to cover all of the costs associated with starting a new business. It’s common for entrepreneurs to use a ROBS along with another type of business financing, including:
- Personal loan for business. Taking out a personal loan can help cover the cost of starting a business when you can’t qualify for a business loan just yet. This option is best for business owners that have good or excellent credit, since that will have more weight than in a business loan application.
- Fixed-term business loan. Need funds to buy a business? Most lenders let businesses use fixed-term business loans to cover the acquisition costs.
- SBA startup loans. You can apply for startup funding through the SBA loan program — though it can be difficult to qualify and time consuming to apply compared to other types of financing.
- Business line of credit. After your business has a few months under its belt, a line of credit could help it cover day-to-day expenses.
- Crowdfunding. Another interest-free option is raising the funds yourself through a crowdfunding platform. You’ll likely pay a percentage in platform fees and you could have to pay taxes on the funds you raise. But it’s generally less risky than a ROBS.
Bottom line
ROBS aren’t for every business. While you won’t have to meet credit or revenue requirements to qualify and can theoretically get access to a large amount of funds for free, it comes with several risks. Since it’s a complicated process that requires expertise, most businesses opt to hire a company — which isn’t cheap.
Curious about more business loan alternatives? You might want to check out our guide to business loans.
