So, you want to use your 401(k) to start a business…
What are the steps you need to take to make sure your business is structured in the right way to give you access to your funds quickly and allow you to get your business off the ground? If you have retirement funds and the ability to access those funds, you have a valuable funding resource.
This funding option, known as a Rollover for Business Startups (ROBS) strategy, is a smart choice for gaining funds that offer you flexibility and free you up from challenging burdens that other funding options require. With a ROBS approach, you will not have to pay interest rates, pay back the loan, or give up a valuable ownership stake in the company.
Why ROBS Makes Sense
Your small business has several options for financing your new business. You could use your own savings or ask family and friends to help support your entrepreneurial venture.
You could also try to use traditional financing from a bank or credit union. However, taking out a loan to start your business means you need to pay back the principal on the loan and interest every month, even in those first months when cash flow can be an issue. That does not take into account the time it can take to find the right financial institution willing to lend to a small-business owner, complete all the paperwork, and wait for a decision.
You can try other ways to raise money, including crowdfunding or venture capital. The former is unlikely to secure enough money for your venture and the latter likely means giving up a share of ownership and control to your investors.
When you want a clean, clear, and quick option for your new small business, ROBS funding makes a lot of sense.
How Does ROBS Funding Work?
With ROBS funding, you invest in yourself. It starts with the business structure you choose for your company. The right legal entity is an important step that allows you to use your existing 401(k) or other retirement fund assets to give your business a great jump start.
Once the business structure is set, you will need to begin the process of transferring funds from your existing 401(k) retirement plan to one that is established for the new company. You will then have your company issue stock, which will be purchased by the new retirement plan.
With the cash from the sale of stock, you will have the necessary capital in your hands in a short time. This money can be used to purchase a business or franchise, pay for a site, order supplies, hire staff, or market your new business.
Let’s take a closer look at each step and how to accelerate your entrepreneurial dreams.
Step 1: Establish Your Business as a C Corporation
A C corporation is an Internal Revenue Service designation that you can use to take advantage of a ROBS funding strategy. It is the most common corporate structure in the United States and offers some significant advantages to business owners.
Filing as a C corporation means you can have shareholders, directors, and officers. As a C corporation, you will have limited liability protection and no limit to the number of shareholders you have.
The IRS taxes C corporations at corporate tax rates. In addition, any dividends paid to shareholders are taxed at individual tax rates.
While individuals can file the required paperwork, we strongly encourage you to use the services of a ROBS provider to ensure that the paperwork is filled out and filed properly. With decades of experience, the Benetrends corporate services team help companies make sure that their corporate status is correct and allows for the next steps in the process to proceed smoothly.
Some entrepreneurs are concerned about using the C corporation instead of a pass-through entity, due to the tax implications. Because the corporation itself and dividends paid to shareholders are both subject to taxes, a C corporation is considered by some as a double taxation entity.
However, there are tax strategies available that reduce or eliminate the double taxation issue. In addition, the C corporation does have several other financial advantages. Perhaps the most noteworthy is the favorable taxation of some fringe benefits, such as employee compensation given in addition to regular wages (such as health benefits). Plus, the corporate status remains in perpetuity, even if the owner leaves the company.
Step 2: Establish a Retirement Plan
Once the new corporation is established, it is time to create a retirement plan for the new company. When you partner with Benetrends, you will talk with our skilled professionals to complete a needs assessment that can pinpoint your short- and long-term financial goals. Our retirement experts will then help create the retirement plan for your new company with the right features.
The retirement plan needs to be established in such a way that the funds transferred into it are available to purchase shares in your company. These complexities are critical to successfully use the ROBS funding strategy. Establishing the retirement plan the right way means you can access funds quickly and without penalty.
Step 3: Transfer Funds from Existing Retirement Plan
When you have the corporate retirement plan in place at your new company, it is time to transfer existing funds. It is important to note that using the ROBS strategy does not mean you are taking a loan against your retirement funds. Instead, you are transferring your retirement funds from one account to another (the newly established plan at your C corporation).
While 401(k) funds are the most commonly used retirement accounts, there are other types of funds that are also eligible, including 403(b) funds, profit-sharing funds, defined benefit plans, traditional IRA, and Thrift Savings Plans. Your Benetrends advisor can review your existing plans to determine which are eligible.
In general, if you have a company-sponsored retirement plan, you will need to be separated from the company. There are some companies that will allow you to roll over your savings account while still working for them. Your ROBS service provider will guide you through the steps to ensure you are able to access funds with a current employer.
That said, you can use funds from a previous employer or from a self-directed IRA or a 401(k) you have opened up on your own, not via an employer.
The final stipulation to using your existing retirement funds is that you must be an employee of the new business. If you are the owner, you are likely also an employee of the business. There are some guidelines you should follow in terms of how much of a salary or benefits you can pay yourself, and you should generally work at least 1,000 hours a year to qualify.
At Benetrends, we can help you understand these guidelines and make sure that any use of the funds qualifies as an acceptable use of the assets. For example, you likely need to pay yourself not from the retirement fund assets directly but instead from operating revenue. You also cannot pay yourself excessive compensation and benefits. ROBS regulations also prohibit you, your spouse, and immediate family members from using the business for personal use.
Step 4: Invest in Your Company
Once the funds are transferred, you can direct your new retirement plan to invest in stock issued by your company. Once you and other plan participants order the plan to invest in company stock, the plan purchases shares in your company.
The company stock is then credited to the individuals’ plans, based on their own investment choices. The proceeds from that stock transaction are now available to your company to use as needed for the launch or expansion of the business.
Step 5: Grow Your Company
With those available funds, you have tremendous flexibility to do with them what you need for your business. If you need to hire more employees or advisors, you will now have the financial means to do so. If you need to buy new equipment or supplies, either to make the goods you are selling or to keep your business operational, funds are available. Do you need to invest in marketing campaigns or additional promotional work to gain visibility with potential customers? The funding received provides a powerful way to get the word out – quickly.
Benetrends is the innovator and pioneer of the ROBS investment strategy. For over 3 decades, we have helped thousands of small-business owners to gain access to much-needed capital.
Benetrends offers a variety of business services to help guide you through the ROBS process. Our Rainmaker Plan® was the very first ROBS plan to use 401(k) assets to fuel entrepreneurial dreams. When you use the Rainmaker Plan, you will follow a proven guide and procedures to establish your business as a C corporation, establish the retirement plan, transfer funds, and put them to good use.
Once your business is established, Benetrends will be there with you at each step. We offer an array of business services, including retirement plan services, and credit card processing.
To see how Benetrends can help you become the business owner you have dreamed of being, download The Definitive Guide To 401(k)/ROBS Business Funding today!