Let’s start with what it isn’t: a ROBS isn’t a withdrawal from your retirement account or a loan against it. (We’ll talk more about those options later.) Instead, funds are rolled into a new retirement account which buys shares into your corporation — in essence, that new plan becomes the owner of your business.
So in order to make use of a ROBS plan, you first need an incorporated business. Corporations – specifically C corporations – are the sole businesses eligible to participate in ROBS because they have the ability to sell stock.
Once your C corp has set up a qualified retirement plan, you would roll over your existing retirement funds. The ROBS plan then allows the new retirement account to buy shares in your corporation, freeing up money your business needs to operate. In other words, the proceeds from the sale of stock could be used as working capital.
We’ll walk you through the steps a bit later in this story.
Although a ROBS plan would keep you out of debt, there are other ways to fund a startup that wouldn’t put a large chunk of your retirement savings on the line. You could consider the following options. These are just a few ideas — you might get more ideas for startup loans here. And if you’re considering a ROBS plan because you want to use your own savings, not outside money, here are some other ways to bootstrap your startup.
Many retirement plans offer participant loans. You could borrow 50% of your vested amount or $50,000, whichever is less. Plans generally require full repayment within five years, including interest. If you don’t pay back the loan, your remaining balance would be subject to the IRS’ 10% early distribution penalty. You may be required to meet additional criteria, such as obtaining a spouse’s approval, depending on your type of retirement plan.
Although it may not provide enough money for large expenses like a new building or equipment, a business line of credit could help with other startup needs such as inventory. An advantage to a line of credit is that you only draw from it when you need it, but lenders may look for relatively high credit scores and revenue requirements plus a year or more in business.
A form of collateral helps reduce the risk for lenders that originate secured business loans. These loans typically have lower interest rates than unsecured business loans but may take longer to get approved. Plus, if a business defaults on a secured business loan, it puts professional assets — and perhaps the owner’s personal assets — at risk.