Should You Tap Into Your Retirement Account to Fund Your Business?

Retirement funds for businessIs it ever OK to use your retirement savings to fund a business? At one time, tapping into an IRA or 401(k) might have been something you would never have considered.  But with a slow economy and clients paying more slowly and capital hard to come by, some have started to think differently.

Seventy-four percent of small-business owners recently surveyed by consulting firm Information Strategies said they would use money from their 401(k) to maintain cash flow or to expand their businesses, Business Week reports.

I find that worrisome — especially if you are over the age of 40.

Let’s look at 3 situations where a 401(k) or IRA might be used for business purposes:

(1) Cashing out a 401(k) or IRA to start or buy a business

I know people who have done this.  Sometimes it works out;  sometimes it doesn’t.   If you are going to close out a 401(k) or IRA account to put it into a new business, you will incur penalties and owe tax.  And if the business doesn’t work out, you could lose the net amount you pulled out, to boot.  Make sure you understand the risks involved with starting a business.  For example, failure rates for new businesses are high.

Discuss the move with your spouse, too, because you also are  putting your spouse’s financial future up in the air.  And consider your own personal circumstances.  This tends to be a less risky option for younger people.  Time can be your friend or your enemy, depending on your age.  If you have more working years ahead of you than behind you, you still have time to accumulate funds for retirement later on.  If you are past the age of 40, however, retirement time may arrive before your bank balance is ready for it.

(2) Closing a 401(k) or taking out a loan against it, to meet your operating expenses

This use of a 401(k) — to keep an existing business afloat — can get particularly dicey.  CPA Sandy Abalos, quoted in Business Week, says she sees more and more small-business owners using retirement money– something she never used to see. “Every single one of those I’ve seen use it all ended up in bankruptcy,” cautions Abalos, who says you should never use retirement funds to prop up a business that’s losing money. If you are considering tapping retirement funds, she recommends having your accountant honestly assess your business’s chances for survival — because if you’re desperate to keep the business afloat, you might not be making the smartest choices.

Your business doesn’t have to be in desperate straits to consider tapping retirement money. Other entrepreneurs are using these funds as a stopgap solution when the overall business is strong, but a few clients are slow to pay. It’s possible to borrow from an IRA without penalties as long as you pay it back within 60 days. Of course, you need to be sure the client is going to pay you within that time frame.  And remember, a lot can change in 60 days, and you may not be able to pay the retirement account back.

(3) Investing a self-directed retirement account into your business

A far more complex option some entrepreneurs use is moving money from their retirement funds to a firm that enables self-directed investments — so you can invest it in your own business instead. Pensco, Guidant Financial and Trust Administration Services are among the companies that can help you do this.

However, the IRS frowns upon such arrangements, calling them a “scheme” and referring to them as “ROBS” (that should tell you something right there!)  in an advisory issued by the IRS in late 2008. (See the IRS advisory here — PDF file.)

All I will say about this option is that it’s fraught with legal pitfalls if you do not follow the IRS rules and regs to a T.  As this article by the Barefoot Accountant on AccountingWeb points out:

“The consequences of entering into any prohibited transactions and of carelessly setting up a ROBS are staggering penalties of 110% or more of the amounts involved in the transactions or the roll over itself.”

Plus, you could be flagging yourself for a tax audit.  Check with your accountant and/or attorney before going the self-directed retirement route.

Have you ever tapped retirement funds for business purposes, either for starting up or to keep your business afloat? What has your experience been?

If you haven’t used a retirement fund, would you consider doing so?


Anita Campbell Anita Campbell is the Founder, CEO and Publisher of Small Business Trends and has been following trends in small businesses since 2003. She is the owner of BizSugar, a social media site for small businesses.

15 Reactions
  1. Anita,

    A couple of people that I’ve helped find great franchise businesses for, did #3.

    They had a company set up a corporation for them, in which they borrowed money from their own 401K.

    As long as it’s done right-exactly how the law says they can do it, I am fine with folks using a small portion of their retirement funds for a franchise start-up.

    A small portion. If it’s feasible.

    It’s their money.

    The Franchise King

  2. Anita,

    The IRS has publically stated that it is “legal to use retirement plan assets to purchase a business”. One must understand the history that precepitated the IRS memorandum of Oct. 2008. This stemmed from plans that were not compliant with federal regulations. The most serious concerns and potential non compliant concerns were generated from companies that did not have long term experience in designing plans or were not full service retirement plan design companies… in essence bad apple(s) spoiling the whole bunch. Federal legislatures and others were quick to realize that this could negatively impact those that are doing it right. BeneTrends has a history of almost thirty years of designing retirement plans and has never had an unqualified plan. BeneTrends pioneered this industry and is the nation’s #1 choice and unquestionably recognized as an expert and now the only company, following the memorandum, that is endorsed nationally by an accounting association and federal agency.
    In light of this memorandum and subsequent events it is clear that resource is and has been legal – but one needs to use a company that has a track record of expertise and ability to ensure “operational” compliance. BeneTrends is one such company as determined by independent experts and professional in the business and governmental community.
    For more information or additional information on the “BeneTrends Difference” give me a call at 770-652-5393 or drop me an email at

  3. Seems to be a question of risk tolerance. I personally wouldn’t recommend using retirement funds to purchase/run a business, but for those with more aggressive pursuits, this might be just fine. However, this is definitely a decision that should be made AFTER careful consideration because as Anita points out, the legal and tax implications can be quite far-reaching.

  4. Casandra Rouhoff

    I gotta say that if someone really feels confident in themself, then they will be willing to do anything to achieve their dreams!”Your business doesn’t have to be in desperate straits to consider tapping retirement money. Other entrepreneurs are using these funds as a stopgap solution when the overall business is strong, but a few clients are slow to pay. It’s possible to borrow from an IRA without penalties as long as you pay it back within 60 days. Of course, you need to be sure the client is going to pay you within that time frame. And remember, a lot can change in 60 days, and you may not be able to pay the retirement account back.”

  5. “I know people who have done this. Sometimes it works out; sometimes it doesn’t. If you are going to close out a 401(k) or IRA account to put it into a new business, you will incur penalties and owe tax. And if the business doesn’t work out, you could lose the net amount you pulled out, to boot.” My father did this and it did not work out for him at all! He wishes he had never tried! Everyone remember, it is easier to fail then to succeed.

  6. First, I have never met an aspiring entrepreneur who wasn’t confident in their business idea. Most people hope that one day they can live the American Dream by starting their own business and retiring rich. If only it were that easy. The reality is that most small businesses don’t survive. I don’t say that to discourage aspiring entrepreneurs from starting a new business, but to remind you of the reality that the odds are really stacked against new entrepreneurs before they even start their business. This is why many first time entrepreneurs seek a franchise to launch their entrepreneurial careers.

    Though many individuals have written that entrepreneurs are looking to access their retirement to start or finance a business because of the down turned economy, the truth is that the search for financing has always been a significant hurdle which entrepreneurs have had to overcome. Less seasoned entrepreneurs have turned to their retirement because they cannot secure debt financing from a bank, their business opportunity is not suitable to secure equity investors, and they don’t’ have savings.

    Between ROBS Promoters and franchisors/business brokers, first time entrepreneurs don’t have a chance. ROBS promoters, like Benetrends, Guidant Financial Group, FranChoice, CatchFire, and others heavily market and promote the use of retirement money to start or purchase a business, typically, a franchise. More common than not, franchisors and business brokers refer entrepreneurs to ROBS promoters who pays the franchisor or broker a referral fee or offer the referrers client a discount on their ROBS transaction if purchased. The franchisor and business broker have a vested interest in the entrepreneur accessing their retirement to start or acquire a business because each will walk away with a chuck of the entrepreneurs money. ROBS promoters are not independent licensed advisors, but self-interested sales people who claim to be experts. In order to be experts the ROBS promoters would have to be an attorney since the ROBS transaction is predicated on several bodies of law.

    Currently, the law does permit a retirement plan to purchase employer securities. The idea behind this law was to provide employees opportunity to take a vested interest in their employer. The law was not created to allow entrepreneurs to access their retirement to start or purchase a business. (See for more on this topic). There are all sorts of fiduciary issues that arise when a company offers employer securities to its retirement plan as an investment option, but ROBS promoters won’t tell you about those issues because it may discourage you from purchasing their transaction.
    Also, when you purchase a ROBS transaction from a promoter, all you are buying is a corporation and a retirement plan for a heavy premium. Today, registering a corporation is as easy as 123. Save your money and consult with a qualified employee benefits attorney instead. Attorneys are required to provide independent advice and failure to do so could result in disbarment. Though at least one ROBS promoter is owned by an attorney, the company he owns is not a law firm. It would be an ethics violation for this attorney to advise prospective clients on the transaction because of the inherent conflict of interest between the prospect and the attorney (namely he is trying to sell the prospect his company’s ROBS transaction).

    Listen, the short of it is this…BUYER BEWARE. Don’t rely on advice from self-interested persons who have a vested interest in you accessing your retirement to start or purchase a business. Though it is perfectly legal for a retirement plan to purchase employer securities, ROBS transactions are fraught with many issues that you (not the ROBS promoter or franchisor) will pay for. There are good franchise businesses out there and great business brokers but if either discourages you from getting independent legal advice run the other way.

  7. I am planning to start a new franchise and have done a lot of research, including multiple phone calls with BeneTrends and Guidant. Ultimately, I have decided to go with option 1 and take the 10% penalty and the additional tax hit. I understand the point about risk tolerance and the potential double whammy of wiping out your retirement account. However, this is something I feel confident about, I have a lot of years until retirement – and ultimately, we all have to make our own decision about risk tolerance.

    I’m sure you’re wondering why not take option 3. Ultimately, I think it’s way too risky and you have a very high risk of facing an IRS audit. Forget about what Guidant and BeneTrends tell you – read the IRS memorandum and make up your own mind. The main concerns I have with this approach are the following:

    1) None of the firms do a true, in-depth valuation of the employer stock. Therefore, the initial purchase of employer securities could be considered a prohibited transaction, which could result in the whole distribution being considered a early distribution.

    2) The employees of the corporation are not going to have the same opportnity to purchase employer stock as the owner. While you can technically get around this by offering employees the opportunity to purchase stock initially for their rollover funds – on an ongoing basis, this opportunity is not going to be available for employees and that is something the IRS and Department of Labor will not look very favorably on.

    3) Last, when I read the IRS memorandum – my interpretation was that IRS is going to look at wheather a number of these plans meet requirements on a “case by case” basis – this means they’re going to audit a bunch of these plans. BTW – the IRS determination letter that all of these promoters are touting mean nothing. Ultimately, they are going to look at the intent of creating the plans on a “facts and circumstances” basis. And if the facts and circumstances lead them to the conclusion that your primary intent was to create this plan to finance your small business – you could be in a world of hurt.

    Last, my advice if you’re considering this is – read the IRS memorandum. There are a lot of hints (including IRS referring to these transactions as ROBS as to what the IRS thinking about these transactions). I would rather just take the hit on the early distribution rather than risk an audit (pay lawyers, accountants, etc.) and then get his with early distributin penalties, taxes and more penalties on top of that.

    • Hi,
      I am considering purchasing a franchise with my retirement money. How did your business work out for you? I believe the franchise I may purchase will do very well, however, there’s always that chance it might not.



  8. Dman,

    Best of luck on your “franchise.”

    I hope things work out in a big way.

    If they do, the 10% hit may be worth it.

    The Franchise King

  9. The way to utilize a 401k to fund your own business is simply to establish an LLC business entity and extablish your own 401k by purchasing stock in your business. Now the money is available without any penalty or taxes. The old 401k rolls into the new one and business profits remain tax free until retirement. Additionally, if your business fails your personal assets are safe. (That’s the meaning of limited liability).BTW- don’t hire third parties to set things up for you; it’s lazy, dangerous, and gets expensive.

  10. Solid, how do I purchase stock in ‘my business’ when I don’t own it yet? It is a small local gym but it has been there for 15 years.

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