Some retirees who aren’t ready to spend their days golfing or gardening are choosing to invest their 401(k) plan or Individual Retirement Account money into a start-up business. There’s a name for this: rollover-as-business-startup. With a ROBS, an entrepreneur can roll over an IRA or 401(k) into a 401(k) in their new company. That 401(k) can then buy stock in the business.
Under the Employee Retirement Income Security Act of 1974, employer stock in many 401(k) plans can be used for investment. The legality of ROBS has been open to question. However, the Internal Revenue Service ruled last year that they are legal within ERISA exemptions. That’s no guarantee, however, that the IRS won’t change its policy on ROBS in the future, particularly in light of a couple of recent cases.
All business start-ups are risky. According to the U.S. Bureau of Labor Statistics, only half last five years. So is it wise to use your retirement account to fund one in your senior years?
Once a ROBS-financed company becomes profitable, the owners can buy back stock from the 401(k). By doing this, their retirement plan becomes less dependent on the fate of the business. If they sell the business, they can return part of the proceeds of the sale to the 401(k).
Are some types of businesses more appropriate for ROBS than others? According to the chief executive officer of Guidant Financial, which is a specialist in ROBS, service companies dealing in personal, business and senior services, are popular. So are fast-food restaurants.
For those who hesitate at the thought of using their retirement savings to fund a new business venture, the Guidant CEO notes that they are actually less risky than borrowing because debt burdens the new business’s cash flow. He also notes that his company’s average ROBS client uses only 60 percent or less of their retirement assets.
A ROBS is one more incentive to regularly contribute part of your income to a 401(k) or IRA. You may decide to take on a whole new venture one day — one you haven’t even imagined yet. If and when you do, it’s essential to have experienced financial and legal advisors. They can help ensure that you are doing everything within the parameters of the tax and ERISA regulations and that you don’t face unnecessary and costly penalties as you embark on the next phase of your life.
Source: WealthManagement.com, “Fund A Business With a 401(k)?” Mark Miller, May. 09, 2014