Transfer IRA funds to a 401k to purchase another business

Q:  I have one question: I don't want to contribute to the solo 401k plan at this time, but I just want to transfer IRA funds to the solo 401k to purchase another business. I am a sole proprietor and do not take an actual salary, but rather a draw. Will this qualify? Thanks!

A:  If you are looking to use your retirement funds to finance your own business, then the solo 401k will not qualify. Instead, the 401k business financing plan will. A solo 401k is for passive investing whereas the Rollover Business Startup 401k is for investing in one's own active business.

Please read the following post from one of my blogs that explains the difference between the two plans.  

 http://www.biggerpockets.com/blogs/3441/blog_posts/43445-financing-own-business-using-401k-or-ira-funds-vs-a-solo-401k-loan

ROBS Not a taxable distribution

BACKGROUND: Ed, I am certainly not an expert so what I am telling you is just what I think.  If you cash in your 401(K) I believe you will be responsible for paying the federal income tax on everything you withdraw from that account.  In fact, I believe it is a required withholding when the funds are disbursed to you.  This will be at whatever tax rate you fall into.  You will not be liable for any penalty though, because you are over 59-1/2 years of age.  If you feel that you could get a better return by investing in a business, it might be okay but you should know that the taxes will be withheld when the check is issued to you.  Whoever this person is that you are dealing with should certainly be up front about the tax consequences of withdrawing from your retirement account.  Another way of looking at it is that regardless, you will have to pay taxes on it one day when you start using the money for this or any other purpose because all of your contributions to the 401(K) (and those that CPH made for you) were made on a pre-tax basis.  You should discuss the tax consequences with him and then make your decision.  You might also want to check with a CPA (like Greene and Dycus) - the company that CPH has worked with all these years.  I can get you their contact information if you need to consult with them.

ANSWER 1) The tax consequences that your friend is describing do not apply to our 401k Business Financing plan, referred by the IRS as ROBS 401k (rollover as business startup).  Your friend is describing the tax consequences that would apply if you decided to withdraw the funds from your retirement account.  Specifically, if you simply withdraw the funds from your retirement account, the amount will be considered income and subject to income tax (note: it would be also be subject to a 10% penalty if you were under 59.5 years old).  Our 401k Business Financing plan does not entail withdrawing the funds from your retirement account.  As a result, you will not incur taxes/penalties.  Rather than withdrawing the funds, our plan entails investing your retirement funds in your business via a 401k which allows you to invest your retirement funds in your business without paying taxes/penalties.  Our plan is an IRS-approved plan and moreover the IRS has recognized this strategy as a legitimate means to invest your retirement funds and fund your own business.  

ANSWER 2) You state below that you "could avoid paying taxes on the 401 K until selling such business."  In fact, merely selling the business will not trigger a tax obligation with respect to your 401k investment in the business.  As noted above, the strategy entails investing your retirement funds in your business via a 401k.  Specifically, you will hold stock in your business via a 401k.  If you sell the business, any gains with respect to this stock will remain in the 401k. This is similar to any other stock (e.g., Ford Motor Company stock, Home Deopot stock, etc.) that you might hold in your 401k and then sell where the gains remain in your 401k on a tax-deferred basis.  These amounts will not be subject to taxes until you withdraw the funds from the 401k.

Lastly, to learn more about what the IRS says about using one's retirement funds to finance his or her own business, click here.

Use TSP goverment funds to finance business startup or purchase

 I am thinking starting/purchasing a franchise business using my retirement fund.  I am currently a federal employee and my retirement fund is in what is called a Thrift Savings Plan (TSP), which is the Federal government’s equivalent of a 401K plan.  I have the following questions before I start the process and hope you can answer these for me.

1.  After setting up the new 401K for the “C” corporation, who holds or has access to the account? The 401k funds are held at Fidelity Investments inside a brokerage account in the name of the 401k. Subsequently, the funds are wired from the brokerage account to the corporation's bank account. We never have access or touch the funds.
 

2.  Does the new business need to be 100% owned by my 401K? No the 401k is not required to own 100% of the business. Often times, the business owner will also invest personal funds into 

the business and thus receives stock in return.
 

3.  My 401K funds may not be enough for 100% of the business.  I may need to take a business loan of $50K to 100K.  Preferably a small business loan.  Is that possible with this type of an arrangements? Yes, whether, an SBA, a bank or seller financing.
 

4.  Do you assist with SBA or other business loans as needed? Yes with respect to providing the lender with all the applicable 401k supporting documents.
 

5.  I will leave about $50K in my 401K after opening the business.  Would I be able to take a loan against this amount if it meets the 401K loan rules for real estate or hardship? Yes the plan allows for 401k participant loans. The participant can borrow 50% of the balance not to exceed $50,000 and the borrowed funds may be used for any purpose.
 

6.  How long does it take from the day I sign the agreement with you to actually have the funds available for investment? It generally takes 10 to 15 business days; however, based on our experience of transferring a TSP using Form TSP-70 (attached) it could take up to 20 business days, but it generally 15 business days.
 

7.  I will have a separate business in addition to this, would it be safe to assume that I can have a separate 401K for this other business as well subject to IRS limitations of what I can put in all 401Ks for myself and my spouse. Yes that is correct. 

More Information

Use Retirement Funds to finance my business

Solo 401k Loan
 

Investing in real estate for income using a 401k

BACKGROUND: I’ll be leaving my current employer and rolling over a 401K program of $180,000. I will likely need to pull some of these funds as a loan to bridge me to next job or until I set up a successful business. I’m planning to invest in real estate for income – rentals and flips, however my understanding is a Solo401K is not a proper vehicle for this.

ANSWER: The ROBS 401k not the solo 401k allows for investing in one's own business. The business activity that you are describing appears to fall under the real estate operating company (REOC) umbrella. I order to qualify for the ROBS 401k, the REOC must satisfy the following requirements.

a. At least 50 percent of the assets of the corporation, valued at cost, must be invested in real estate which is managed or developed and with respect to which such entity has the right to substantially participate directly in the management or development activities.

b. Such entity in the ordinary course of its business must be engaged directly in real estate management or development activities.

Lastly, a 401k participant loan may be taken from the ROBS 401k and the 401k loan funds may be used for any purpose including for paying living expenses.  

Vick in California

More Information

Solo 401k Loan

401k Business Funding FAQs