Everyone associates entrepreneurship with hard work and oftentimes, debt. For many small business owners just starting out, this is probably the case.
While hard work may be unavoidable, there is a funding solution that can help ease financial burdens.
What’s the solution? In a word, ROBS.
What Is ROBS Funding?
It’s a common misconception that you can only use your retirement funds to purchase investments like publicly traded stocks, bonds, or mutual funds. In reality, you can use most retirement plans to buy a business—tax-deferred and penalty-free.
Known as a ROBS (Rollover as Business Start-ups) strategy, this funding solution is designed using long-standing provisions of the Employee Retirement Income Security Act of 1974 (ERISA) which allows entrepreneurs to use money from a qualified retirement plan to purchase or recapitalize a business.
This program is similar to buying stock in a public company, except instead you’re investing in your own privately held company.
With this funding option, you avoid having principal or interest payments, which can greatly impede your cash flow, especially in the early years of business. Using retirement funds can also help your business reach profitability faster. And because you’re investing your own money in your own business, there’s no need to use your home as security for a loan or to provide collateral.
Launching your business with ROBS funding offers additional advantages:
- You gain access to your retirement account funds without incurring early-withdrawal penalties.
- You maintain the tax-deferred status of the funds.
- You do not incur any personal or business debt.
- You can, in many cases, secure your funding quickly, sometimes in as few as 10 business days.
- Your ability to access your funds is not dependent on your credit score or business plan – you qualify even if you have bad credit or bankruptcy.
- Most retirement plans – including IRAs, 401(k) plans, 403(b) plans, and more – qualify.
- You don’t have to use all the funds you transfer from your eligible retirement account – only what you need to launch the business.
- Your retirement funds can be used as the cash injection for a Small Business Administration (SBA) loan.
Which Is Better—ROBs Funding Versus Start-Up Debt?
Small business debt is a contributor to the demise of countless startups every year. Debt can take many forms, from term loans, lines of credit, small business credit cards, and more. That’s assuming your small business can even get a loan. The data shows that big banks only approve 23% of credit applications for small businesses. While small companies choose financing based on their need, there are four primary reasons these entrepreneurs go into debt for their business:
- They’re just launching the business and need capital for equipment, rent, or other overhead.
- They’re purchasing inventory.
- They are scaling or growing their business.
- They want a cash influx to strengthen the business.
However, not all debt is good to have. There is a tightrope to walk between cash on hand and interest-heavy debt payments. This process must be handled carefully, or the new business owner may dig themselves a hole out of which they cannot climb. Too often, we see small businesses that cannot receive a loan from a traditional lender rely on high interest credit cards to purchase what they need to launch. We’ve even seen these passionate entrepreneurs use their personal credit cards—which is rarely a good idea.
The reality for any business owner is that there is both good and bad debt. Having a pile of debt can irrevocably damage a small business. If only these business owners knew about ROBS funding before seeking traditional funding from banks or other sources!
Why is ROBS funding better? If you have access to your retirement funds, a ROBS could change the outlook for your business model. Here are some of the benefits of ROBS funding:
- It gives you a cash outlay with no debt. Debt is the anchor that drags your business into the depths. Avoid it at all costs, especially at the launch of your company. If you use ROBS funding, you can leverage your cash now when you need it most with no monthly debt payments to add to your bottom line.
- You don’t need to qualify for ROBS funding. Let’s face it—it is hard for a new business to get funding. You don’t need good credit or a track record of sales to qualify for a ROBS. You won’t need to sign your house over as collateral. The truth is that your retirement funds is your money and a ROBS gives you a way to leverage it without the exorbitant penalties of early retirement withdrawal.
- ROBS funding reduces your small business overhead. Skip the debt and you free up potentially hundreds of dollars each month. Debt can reduce your net profit and slow the time it takes to break even in your business.
- ROBS invests in your dream of entrepreneurship. Using your 401(k) funding to empower your business venture is an interest-free way to get the cash you need to make your business successful. Every dime of interest you pay is wasted if you haven’t taken advantage of your 401(k) funding as a primary resource first.
From a business perspective, ROBS funding is a relatively risk-free way to launch your entrepreneurial effort. Notice we said, “relatively risk-free?” The risk is that your business could fail, and you could lose some or all of the money you had saved for retirement.
Other cons include:
- Does not make financial sense to use if haven’t accumulated more than $50,000 in retirement savings.
- Must be carefully structured to comply with ERISA provisions and IRS codes.
- Because of the complex structure, you should hire an experienced retirement plan services firm.
However, if your business model is solid and you’re ready to launch, ROBS funding may be the best way to startup with no debt. And now is the best time to get started so you begin the new year as your own boss. Benetrends’ team of experts will help you explore the best funding option for your business. Schedule a consultation today.