A growing number of people who
are tired of their jobs, or have recently lost their jobs, are converting their
traditional 401(k)s into ROBS (rollovers as business start-ups) and using them
to invest in entrepreneurial endeavors.
The reasons is becoming more
commonplace is that the real estate market is up, the stock market is up, and
this offers a way to finance a business without taking on any debt. Therefore,
in a market that has a large amount of unemployment and a credit crisis, ROBS
can be an attractive way to start a business.
As in anything where the IRS is involved
it isn’t as simple as it firsts sounds, and in many cases the potential
benefits don’t outweigh the considerable risks. If ROBS are not accurately put
in place they can be viewed as tax-avoidance schemes by the IRS, which could
lead to fines and large tax rates for early withdrawal of a 401(k).
ROBS work by people taking a
qualified retirement plan, such as a 401(k), and rolling it into a completely
new plan, which in turn buys shares in an operating company. This operating company will own the business,
but instead of the business being set up as an LLC or S-corp, it must be set up
as a C-corp. Essentially, this means
that the new plan owns the business, and the individual who is starting the
business must act in the best interest of the plan and not necessarily in his
own best interest. As a result, he isn’t able to make his salary as large as he
wants but must find out what comparable business owners are being paid and
adjust his pay accordingly.
It is important for people to do
ample research before deciding whether ROBS is a good idea for them or not.
There are numerous ways to get in trouble with the IRS, incur fees, and run
into difficulties if you try to sell or dissolve the business.
Many investment firms that provide guidance to
individuals who are using ROBS to start a business simply focus on making sure
that all the paperwork is being filed and guidelines followed. They have little
time to counsel people on whether or not starting a business is a good idea for
them. With most new businesses failing within the first year, it is important
to consider if putting your retirement funds on the line is worth the risk.