What Is Rollover As Business Startups (ROBS) And How It Works

If you’re planning to start a business, you may have heard of ROBS, which is shortfor Rollover(s) as Business Startups. This financial transaction allows you to roll your retirement savings into funding a business tax-free.

That said, ROBS should be pursued with caution, as they can put a person’s retirement savings at risk. It’s also a very complex transaction, with the IRS keeping a close eye on them because they are tax-free.

If you’re considering using a ROBS, you should consult an accountant or financial advisor to see if this is the best way for you to fund a new business. 

What is ROBS?

A ROBS — Rollover as Business Startup — transaction is tax-free and moves money from your retirement savings account into funding a business. According to the IRS, the ROBS plan uses those retirement assets to buy stock of the new C corporation, which is then used as funds for the business.

While normally withdrawing funds from a retirement account early would come with penalties, no taxes or penalties are associated with ROBS. This is because you are not fully withdrawing the money but rolling it into a new business. Since ROBS are tax-free and debt-free, they are a more attractive option than conventional startup business loans and debt financing.

Eligibility requirements for ROBS transactions

Meeting the eligibility requirements is a must for those seeking to use ROBS as a financing option for their business startup.

ROBS transactions can only happen following the formation of a new C corporation. Establishing a corporation includes tasks like appointing directors, filing articles of incorporation, developing corporate bylaws, drafting a shareholder agreement and completing registration with both the state and the IRS.

How a ROBS transaction works

ROBS transactions are quite complex. According to the International Franchise Association, the steps include:

1. Form a new C corporation, which is a corporate structure with shareholders.

2. Create a 401k ROBS retirement plan for that corporation.

3. As a business owner, you become an employee of the C corporation and the beneficiary under the new retirement plan.

4. Roll the funds from your existing retirement account into the new C corp’s retirement plan.

5. Use the retirement funds to buy stock in the C corporation.

6. As the business owner, use the proceeds from the stock sale to fund the new business.

Ongoing compliance requirements for ROBS

Working with a ROBs does not stop once you form the C corporation. Instead, it requires ongoing action to stay compliant with both federal and state laws.

The IRS requires filing Form 5500 each year. This form details the assets within the plan and any original stocks purchased. The IRS also requires filing corporate taxes each year.

Additionally, you’re responsible for any state-specific requirements associated with a C corporation, such as filing annual reports and maintaining registration. You can find a full list of your state’s requirements through your state’s Secretary of State’s office.

Pros and cons of ROBS financing

There are both benefits and drawbacks to ROBS funding, which should be reviewed to ensure you’re doing what’s right for your finances and business.

Alternatives to ROBS

Before completing a ROBS transaction, you should consider other ways to fund your business, such as SBA loans. With many small business financing options available, there may be something that can work for you that doesn’t directly risk your retirement savings.

Business loans

Business loans are the most conventional way to fund a new business. You apply for one lump sum of cash and pay back that loan amount and interest over the loan term. Depending on the lender and your loan terms and conditions, you may have a secured or unsecured business loan.

Businesses can also opt for an SBA loan, which caters to both startups and established businesses. The most common SBA startup loan is the 7(a) loan, which is versatile for small businesses, covering needs like working capital. The SBA also offers Community Advantage loans, 504/CDC loans and microloans to startups, each with varying loan amounts available.

Business credit card

Business credit cards are like personal credit cards but for business expenses. You may be able to get perks like cash back, rewards points or an introductory APR. You’ll see a lower limit than with a traditional business loan, but you can potentially avoid interest charges if you pay your bill every month.

Business lines of credit

Business lines of credit have revolving borrowing amounts. During the draw period, you can pull what you need to use, and then there is a repayment period.

You can find business lines of credit in both secured and unsecured options. Lines of credit are popular because you only pay interest on what you use, making it a less risky option than using your retirement savings.

Crowdfunding

With crowdfunding, people donate to businesses, sometimes in exchange for rewards or equity. Crowdfunding usually goes through digital platforms like Kickstarter or Indiegogo.

Personal loan for business

Like business loans, personal loans come in lump sums with interest that you pay for the length of the loan. As you’re personally liable for a personal loan, you could risk your credit or assets instead of a business’s. Personal loans may be easier to obtain than business loans, but some lenders may restrict fund usage.

Grants

A business grant is a great small business financing option as the funds don’t need to be repaid. That said, applications can be long and highly competitive. Additionally, business grants are usually taxable.

The bottom line

ROBS can be a tax-free way to fund a business by transferring your own retirement funds into the new business. However, it’s a complex process that can put your retirement savings at risk and invite extra scrutiny from the IRS. Completing a ROBS transaction should ideally be done by a knowledgeable financial professional. The IRS monitors ROBS transactions and has specific filing requirements related to them.

Frequently asked questions