Tapping IRA or 401k for your Dream Business

Retirement, as we know it, is supposed to be all about relaxing, traveling, golfing and making up for lost time with your family. During the major work years, savings form an integral part of your retirement planning and it is a prevailing wisdom that the account should not be touched until you retire. But as times are changing, people are now opting for an early retirement after a decade of hard work and then pursue their entrepreneurship dreams.

The funding process of finding investors and venture capitalists is a tedious one. Whether it is a new business or expansion, entrepreneurs know better than to waste time struggling and instead, use their IRA or 401(k) fund for securing their business. One other reason for considering the retirement funds is that it proves to be tax-wise, as the tax-deferred growth of this account offers more money.

Although the IRA and 401(k) funds can be used to finance your start-up business, it is not as simple as writing yourself a check. ROBS or Rollovers as Business Startups is a method by which retirement funds can be used for investing in the business. It includes individual qualified plan accounts or IRAs rolled over into a newly established 401(k) plan that is sponsored by the start-up and then used to purchase the startup’s stock. That means the person is buying shares of his/her own business and effectively putting new money into it.

ROBS proves to be the best technique for launching a business as it offers:

Easy Funds

Despite an entrepreneurial boom, the market is still reluctant to open up to new business ideas and fund them. Hence, the new-age aspirants do not have much choice but to give in to home-equity loans or credit cards. The ROBS arrangement not only circumvents the problem of secure funding, but also allows the entrepreneurs to free themselves from the potentially crippling loan payments while the business is at a nascent stage.

Tapping IRA or 401k for your Dream Business

Tax-Wise Decision

ROBS allows aspiring entrepreneurs to capitalize the business with untaxed retirement fund without incurring any taxes and penalties that generally apply to early distributions from these funds. The assets are shifted directly from the tax-exempted retirement fund to the startup fund, which is not immediately taxable. This allows more cash to be available for investment. Also, there is no set limit for ROBS business financing compared to loans, which proves to be advantageous to the business.

Between 401(k), IRA and SEP, there are varying degrees of benefits although all of them are deferred from tax.

401(k)

Almost every salaried employee has a 401(k) and they can borrow from that account, preferably prior to trading the job for entrepreneurship. Employees can borrow up to $50,000 from the account and repay the loan within 10 years with a nominal interest of 2-3%. As the funds are not considered withdrawn, there are no taxes or penalties to be paid. The only catch is that borrowing happens prior to needing the money for the business.

IRAs, SEPs

IRS and SEP plans do not allow borrowing against them, unlike 401(k). The money in these accounts can be accessed by liquidating mutual funds investment and writing checks for the business. Another major factor is that withdrawals are subjected to 10% penalty & income tax, but taxes can be minimized with careful planning.

It is never wrong to pursue entrepreneurial dreams and goals, and shying away from retirement funds makes no sense. But use it carefully- backed by a solid business plan. Your IRA or 401(k) might prove to be as important for your business as for your retirement.

In Closing

Before a Retiree engages in a Rollovers as Business Startups (ROBS) transaction to begin their dream business it is best to work with an experienced professional.

Like any federally allowed method to access and use our retirement savings penalty and/or tax free there are strict guidelines that must be followed.

Were you aware of Rollovers as Business Startups (ROBS) option for business startup funding?

The above post is provided by contributor Rick Pendykoski.

Rick Pendykoski is the owner of Self Directed Retirement Plans LLC, a retirement planning firm based in Goodyear, AZ. He has over three decades of experience working with investments and retirement planning, and over the last 10 years has turned his focus to self-directed accounts and alternative investments. Rick regularly posts helpful tips and articles on his blog at SD Retirement as well as MoneyForLunch, Biggerpocket, SocialMediaToday, WealthManagement, SeekingAplha, and NuWireInvestor. If you need help and guidance with traditional or alternative investments,  visit  www.sdretirementplans.com.