Rollovers as Business Start-Ups, also known as ROBS, are financial transactions that allow current or potential business owners to use a 401k rollover to business startup. The benefits of these transactions are multi-fold. First, they allow a person who would like to add their 401k, IRA, or other retirement fund to their business funds or make those funds available to a person who wishes to start a business. This option is particularly attractive to many people in economic situations such as the one Americans have found themselves in with limited funds and tight credit.
The primary attraction of these transactions are that they are tax-free. The primary requirement for setting up a ROBS transaction is that the entrepreneur must establish a C corporation prior to beginning the transaction.
Controversy Background of ROBS
Considerable debate has stemmed from the IRS which has continued to describe ROBS transactions as “questionable,” mainly due to what is described as a discriminatory action since it benefits the business owner only. Despite this, ROBS is still a legitimate type of investment allowed by the tax code. In the years since the establishment of the ROBS program, the IRS has launched several attempts to make this option open to anyone who wishes to take advantage of it.
Many financial advisers claim that a ROBS transaction puts a big red target on the back of those who take advantage of it, along with a sign that says, “Audit me!”
Another debate that has entered into the ROBS picture has been the dramatic increase in “promoters/facilitators” who attempt to sell business “opportunities” to franchisers who receive referrals to entrepreneurs for a fee. Unfortunately, the payment of these fees is rarely disclosed to the entrepreneur. In the case of other types of businesses, this practice is illegal. Many of these promoters get around these issues by requesting and receiving a “favorable determination letter” or “DL, ” which allows them to practice under the terms of a disclosure, although whether they actually practice these terms if anybody’s guess.
Results of 401k to Business Rollovers
Another source of considerable controversy over the practice of ROBS is the high rate of business failures that have resulted from these programs. There are some success stories, to be sure, but a vast majority of the businesses funded by ROBS have either failed or are on the road to failure, including bankruptcies, liens, and corporate dissolutions.
There are also concerns expressed by many that in order to avoid troubles with the IRS, those who take advantage of a ROBS transaction must stay clear of numerous transaction prohibitions. And running afoul of these rules have staggering penalties. As a result it is important to establish a plan that avoids these transactions and stick with it.
The ultimate results of many of these, of course, is that those who have taken advantage of the ROBS have ended up losing their 401k funds that in many cases, took lifetimes to create. They have also lost their dreams of owning their own business.
Another issue among the debates about ROBS is the vastly higher rates of success of those who use other, more traditional means, of funding a business or potential business.
Some people flat out think it’s a scam or a scheme even though they probably don’t care much for business, period. I just personally think it’s risky. Businesses are built on a successful model, not lots of capital. But I wouldn’t put all my eggs in a 401k basket and expect the best either.