If you’ve been reading up on small businesses and startups, you’ve probably heard of a funding opportunity referred to as Rollovers as Business Startups, or ROBS. As with any investment, a ROBS plan is a leap of faith that your business idea will pay off. However, many misconceptions exist about this particular funding option.
We’re here to debunk six common myths about rollovers as business startups and put you on a path toward success. Keep reading to learn why ROBS may be right for your business!
What Is a ROBS?
Before we dive into the misconceptions about ROBS, it’s crucial to understand this type of transaction. When you invest in your small business using a ROBS, you rollover all or a portion of the funds in your retirement accounts (such as a 401(k) or traditional retirement account) into your business startup or franchise. Typically, this is done with the assistance of a ROBS provider or an attorney.
First, a C corporation is formed. A C corporation functions differently from an S corporation, mainly in the way that income is taxed. A C corporation pays taxes on the corporation’s income, and the owner pays taxes on any income they receive. On the other hand, an S corporation does not pay tax but rather the owner reports all company revenue as their personal income.
Once the C corporation is formed, your retirement accounts get rolled over into your new 401(k) and the funds can be used to buy stock in your new company. This process may sound a little complicated; that’s why many people hire an attorney or ROBS provider to streamline the process.
Benefits
Naturally, this option comes with quite a few benefits for the entrepreneurs that take this path. Some people have trouble working with lenders, as there are several hoops to jump through to secure funding. Rollovers as business startups offer an alternate way to get the money you need to start your business.
Many people have built up retirement savings but don’t have the credit required for a business loan—ROBS provides an opportunity to still pursue their entrepreneurial dreams. Your credit score is not used to determine your eligibility.
In addition, a ROBS is not a loan. It’s your retirement money, which means you don’t need to get bogged down with monthly payments or ridiculous interest fees as you try to get your business off the ground.
Finally, there are tax-deferred savings and no penalties when you withdraw your money using a ROBS. Usually, withdrawing money from retirement accounts early causes you to be walloped with taxes and fees, but you can avoid this with a ROBS.
Drawbacks
With every new business venture, there are risks. The main consideration when rolling over a retirement account is that it puts your retirement savings at risk. Not every business succeeds, and if your startup doesn’t make it off the ground, you’re left without your retirement savings.
You could also miss out on gains to your retirement account. If the stock market does well and your money isn’t in the market, it does you no good.
Additionally, you may become more of an interest to the IRS, making your chances of an audit greater.
ROBS Is Tax Avoidances
Now that you understand exactly how rollovers as business startups work, let’s get into some of the most common misconceptions regarding them. First, some people claim that using the ROBS structure is a way to avoid taxes. This is a ridiculous claim—as we mentioned earlier. ROBS is a legal, tax-deferral vehicle that allows you to shift money out of your retirement plan and invest it into your new business without wasting money on the penalties paid if you simply withdrew the funds prematurely.
Getting Funding Takes a Long Time
There is also a myth that acquiring your ROBS funds takes a long time and is a complicated process. While it can help to hire someone to oversee your ROBS transfer, the process is short and sweet compared to other funding models.
Most people receive their money about two to three weeks after starting the process. And while there are rules and restrictions you need to keep in mind, they are rarely as restrictive as obtaining a business loan. For help with 401k small business financing, contact Pango Financial today.
It’s the Same as a Loan
We touched on this before—ROBS is not a loan from your retirement account, or a loan from yourself. Loans always come with debt, and using your ROBS to fund your small business never comes with debt. You do not need to pay back the money from your retirement account (you may decide to, but it is not a requirement).
Loans also come with strings attached, like interest or late repayment fees. When you use ROBS, you don’t need to worry about any of those extra negative factors. In fact, you can leverage additional funding by pairing your ROBS with conventional funding like a small business loan as cash down or collateral.
The Money From ROBS Is Restrictive
Some would have you believe that the money from ROBS is extremely restrictive but it’s actually the opposite. You can use the money from ROBS to fund just about any business expense you can think of. Do you need to purchase land, rent a building, or buy inventory? Your ROBS money can do that! When you hire employees, you can even use ROBS to pay their salary.
You Can Fund an LLC
An LLC is not the same as a C corporation, so ROBS cannot be used to fund an LLC. The same is true for an S corporation—you cannot start any business other than a C corporation with the money from ROBS. So, the first step would be to convert your LLC to a C corporation.
It’s a Self-Directed IRA
There are certainly similarities between self-directed IRAs and ROBS but they are not the same thing. You can finance a business with either but you cannot work for the corporation you invest in with a self-directed IRA. The ROBS is just the opposite—you must work for the business you put your funds into.
Now that you know these six common myths about rollovers as business startups, don’t let misconceptions get in the way of your dream. With the truth about ROBS under your belt, get to work creating your small business!
