One of the greatest hurdles aspiring business owners face is securing adequate financing. The cash and eligibility requirements for obtaining a traditional small business loan can be a challenge for many borrowers to meet. That’s why many prospective business owners are turning to alternative financing methods to make their dreams come true — and they’re succeeding! One of the alternative funding avenues that is growing in popularity is Rollovers for Business Start-ups (ROBS), also known as 401(k) business financing.
What Is ROBS for Business Start Ups?
ROBS funding allows entrepreneurs to use their retirement money for start-up funding, to acquire an existing business or to finance the purchase of a franchise — all in a fast, tax penalty-free transaction.
Let’s take a closer look at the history and process that make ROBS funding possible.
The History and Legality of ROBS 401k Business Financing
Many entrepreneurs who aren’t too familiar with ROBS (and even those who are) have a lot of questions about the process — mainly regarding the legality of its structure. ROBS, or 401(k) business financing, has actually been an option since 1974 when Congress passed the Employee Retirement Income Security Act (ERISA), which shifted the responsibility of retirement savings from the employer to the employee.
Critics of ROBS sometimes argue that retirement funds should be left in a retirement account. However, traditional brokerage accounts invest in public businesses, and, as you’ll see below, this structure is very similar. Instead of being placed in a volatile market, your retirement funds go to financing your own private business. Who better to bet your money on than yourself?
Qualifying for ROBS with Retirement Funds Is Simple
Unlike traditional business loans, there are very few eligibility requirements for ROBS. Without credit, collateral, or down payment requirements, the funding process can move quickly, sometimes in as little as three weeks. The one essential requirement for ROBS funding is that you have at least $50,000 in an eligible retirement account to ensure the tax benefits you receive from ROBS outweigh any associated fees. You technically can complete ROBS with less in your account, but it’s not recommended. It’s also important to note that while most retirement funds are considered “rollable,” Roth IRA funds are not eligible for ROBS funding.
You can find out if you qualify for ROBS, as well as a number of other funding options, in minutes by completing a short pre-qualification survey online.
If you want to get started with ROBS, the first step is to find a third-party provider who can help you properly complete the process. Because each ROBS step can be complex and must be completed following IRS and DOL guidelines to avoid triggering any tax penalties, a qualified and experienced ROBS provider can make sure you stay in compliance, as well as help you complete the process quickly and easily. Learn about what you should look for in a ROBS provider.
The Funding Advantages of ROBS for Business Start Ups
The ROBS arrangement is not a loan, but a way to utilize your retirement assets to grow your business without incurring debt. You do have the opportunity to grow your retirement plan as you build up your business, but there are no required monthly payments and no interest charged. Many small business owners choose ROBS funding for this exact reason, but there are also a number of other factors to consider:
- The ability to build up your business. Without monthly payments to make, you can more quickly reinvest your revenue back into building your business. This is essential to surviving the first few years of business when cash is often tight.
- Fast fundingfunding. The entire ROBS process from start to funded can be completed in as little as three weeks. Fast funding can be the difference between closing the deal or not when purchasing a franchise or an existing business.
- Combining financing. If you don’t have enough money in your retirement account to fund the business of your dreams, you can still utilize ROBS. After the ROBS process is complete, you can immediately use the funds as the down payment on an SBA loan or another business loan — drastically increasing your overall buying power.
- Established 401(k) plan. The ROBS funding structure requires the establishment of a 401(k) plan, which then must be offered to employees. As a business owner this is a great recruiting tool, and as an employee yourself, it gives you the opportunity to continue to build your nest egg.
Brief Overview of the ROBS Business Financing Process
The ROBS process involves several key steps that must be followed to ensure compliance and successful funding:
- Forming a C-corporation: The first step is for the business owner to create a new C-corporation, which will serve as the entity to receive the rolled-over retirement funds.
- Establishing a qualifying retirement account: The C-corporation then sets up a qualifying retirement plan, such as a 401(k), to hold the rolled-over funds.
- Rollover of retirement funds: The business owner rolls over their existing retirement funds into the new retirement plan.
- Purchase of stock: The retirement plan uses the rolled-over funds to purchase stock in the C-corporation.
- Use of funds: Finally, the business owner can use the funds from the stock sale to cover business start-up costs.
No matter where you’re at in your search for business funding, know that you have options. If you’re interested in starting your business debt-free, ROBS funding may be the right choice for you.
Alternatives to Rollover for Business Startups
While ROBS can be a viable option for business owners, there are several alternative funding options available, each with its own set of advantages and disadvantages:
- Traditional business loans: These loans can provide substantial funding but often come with stringent eligibility requirements and interest payments.
- Business lines of credit: Offering flexibility, these lines of credit can be useful for managing cash flow but may have variable interest rates.
- Business credit cards: Convenient for smaller expenses, but they typically carry high-interest rates.
- Crowdfunding: A popular option for raising funds from a large number of people, though it requires a strong marketing effort.
- Personal loans for business: These can be easier to obtain than business loans but may put personal assets at risk.
- Grants: Non-repayable funds that can be highly competitive and difficult to secure.
Let Franchise Business Review help you find the best funding source for your business – request a complimentary funding consultation with our partners at Benetrends Financial to start your franchise journey today!
