Rollovers as Business Startups (ROBS) Unlocks Your Retirement Account, Tax-Free!

Mike Pine: [00:00:00] Welcome to today's Hidden Money podcast. Kevin and I are super excited to have Paul Cook here. Today, we're going to talk about something called ROBS or Rollover Business Startup. 

This is a really, really cool tool that, amazingly, most people don't know about, but it's a great tool. We just had a prospective client we met with last week that was perfect for ROBS, and Paul's already met with her, and getting her hooked up. But Paul, thank you for being here. You know more about ROBS than anyone I've worked with in 24 years as a CPA, so it's a pleasure to have you. We're very thankful, and we're hoping that you can help dumb down what ROBS are for the rest of our audience.

Before we start, why don't you tell us a little bit about who Paul Cook is, and maybe something about your firm, Guidant Financial?

Paul Cook: Yeah, I appreciate it. Thanks for having me, Mike and Kevin. It's always a pleasure to get the word out. 

People don't know about ROBS, and it's been around for 50 years, since 1974, when the ERISA Act was created around [00:01:00] retirement accounts. We've been doing it for 21 years at Guidant Financial. So, we're a privately held company founded by David Nilssen and Jeremy Ames, a couple of friends who were... actually their wives were real estate brokers- they were doing a deal out here on the peninsula in Washington state, and the attorney on the deal said,

' Hey, do you guys want to use your retirement dollars to buy this real estate?' --and they're like, 

'What??' They had, no clue what she was talking about. 

Anyway, she sketched it out on on the back of this folder, and they were in their probably late twenties at that point, didn't have a ton of money in their retirement account, but it spurred an idea in their heads.

So, they founded Guidant Financial about a year later to help people set up self-directed IRAs, which is a pretty cool vehicle. But quite quickly, they realize that the need and the understanding to use your retirement dollars to fund a business, which is what this ROBS structure is, was probably going to be a better stream of revenue for us, and and more [00:02:00] readily received service. And anyway, He brought me over in December of '06 to help build his sales team.

 And now, I head up, what we call, the professional services channel. So, I educate guys like you, Mike, and CPA firms, law firms and accounting firms around the country to learn about ROBS.

 I have a confession here to make, and Kevin, I hope you don't tease me too much about it over the rest of our career, but I had no idea what ROBS were. 

Mike Pine: My first thought was, 'You can't do that. That's illegal, man.' 

I think why most CPAs don't know a lot about this is what you mentioned earlier- ERISA. ERISA is the law that was created that, basically, focuses on retirement accounts and the ability to make pre-tax contributions, and those kinds of things.

That is not the normal part of the tax code. ERISA is a whole separate area. Yes, it's part of the tax code technically, but it's not something that we study. It's not something that we know about. I know income tax really well. I don't know ERISA well- most CPAs I know don't. We always rely on [00:03:00] the fiduciaries, the administrators of retirement accounts to help our clients navigate those rules, and we focus on the income tax. So, I'm glad that we have someone that knows more about ROBS. Kevin, you probably have always known about ROBS, knowing you.

Kevin Schneider: No. It's very niche, though, because it is a very cool way to use your retirement account, but it doesn't suit everyone because it's hard to tax plan with it also. If you're trying to save on your personal taxes, which is, kind of, where you and I land, Mike, is we want to save people taxes.

ROBS isn't going to get you to save taxes. What it does is prevents you taking money out of retirement to start a business and creating taxable income. So, it saves you taxes by just shielding some taxable income. If you want to access retirement funds to start a business, or like Paul said, buy real estate, or whatever it is you want to do,

it prevents taxes, but it won't save current taxes that you're already having to pay. So, it's very hard for a lot of CPAs to get into because a lot of us are focused on tax [00:04:00] mitigation, and reducing this big tax bill you got. But this is a really cool thing, and Paul, I'd love for you to- just a high level- what it is, how it works, because if you've got a lot of money sitting in retirement account, and the market's not doing well, and let's say, you want to go start a business,

you can tap into your retirement account, tax free, to start a business, and that is the magic.

Paul Cook: That is the magic, and you both said a couple things that rang true. 

So, let me explain it this way- and I'll keep it at the 30,000 foot level. In a nutshell, you've got X dollars sitting in a retirement account someplace, probably spread out over some diversified portfolio, but we don't have any control over what happens on Wall Street.You eventually realize that gain when you're 75 years old, and you start taking distributions when you're living off your retirement account.

 But again, what if you're 70 years old, and the market takes a huge crash right before you start needing to live off of that money? [00:05:00] So, taking your retirement account and rolling it over into this vehicle, you're hedging your bet against Wall Street.

 You're rolling your funds over into a new 401(k) plan that we create, so no tax, no penalty, because it's a rollover. And then, that new 401(k) does one thing- it buys private stock. Let's call it Paul's New Corp. So, New Corp, now, has its operating account at local bank of my choice, and the cash that was in my retirement account just yesterday is sitting in my corporate checking account, and I just brought a partner to the table. 

The partner is my retirement account. It owns stock in New Corp. And now, I've got the capital sitting in my corporate operating account to show the seller, or the lender, or the broker, whomever is helping me on this deal.

 It's good for startups, as well, and even recapitalization of current businesses. The gist of it is it's got to be [00:06:00] set up the right way. That's where Guidant comes into play. We form the corporation, we form the 401(k), you roll your monies over- your monies buy stock in your own corporation- and you're set up and good to go.

Kevin Schneider: Yeah. Well said. How often do you see business owners taking advantage of this? And who would you say is a good candidate for it?

Paul Cook: Yeah. Two great questions. On any given month, we can do from 100 to 200, small business startups, or fundings, if you will. 

So, we've funded. I don't know what the number is now, probably around 30,000 businesses over the 20.. 21 years, now, that we've been doing this. 

The ideal candidate- that's a hard question to answer. Let me tell you what we see typically. Probably about half, in any given month, of the clients we're helping are first time business owners, and they're probably going to do some kind of a startup, 

and most of those are probably doing some sort of startup franchise. 

So, even though it's [00:07:00] a proven franchise brand, if you will, it's still a startup for them because it's a new territory, new market, whatever. And those can run the gamut from a low dollar franchise, maybe around $100,000.. $150,000 all the way up to spending a couple million bucks on a franchise if you wanted to, depending on build out costs, et cetera.

The other half are buying some kind of a business. Now, these folks may or may not be seasoned-to-business owners. They've run or owned or operated a business before. 

So, those deals can range anywhere from, again, the low end- maybe a half a million bucks all the way up to, say, looking for a $5 million SBA loan. 

The bank is going to like this deal because I'm preserving my cash now. What little cash I have leaving corporate America, I'm going to roll over a half a million bucks, let's say, for a 10% down on a $5 million SBA loan. 

So again, ideal client want to be a business owner, might be scared about it, and I might not know how to fund it. [00:08:00] And we're just going to get you educated on how you might be able to use this vehicle, and really make yourselves a better buyer and borrower 100% of the time, because you've got more capital to use now.

Mike Pine: I would go further and say anyone who's thinking about raiding their retirement account for any kind of investment that they want to do outside of their retirement account, whether it's a business or real estate, if you're going to pull money out of your retirement account before your retirement age, you face two taxes.

One's a big penalty. You face the early withdrawal penalty, 10%. 

Paul Cook: Gone! Right off the top. 

Mike Pine: Right off the top. And no matter how much tax mitigation and tax planning we do, we can never get rid of that 10% penalty. But then, you're also paying income tax. So, all the money in your retirement account- you didn't pay tax on that money when you made it.

You took that and deferred it into your retirement account. So, it's untaxed money. 

If you pull that out of your retirement account now, it's taxable income to you. If you're in the 37% tax [00:09:00] bracket, you could pay that 10% penalty plus 37%, so that's already 47% before you get to state. Before you do anything, you've lost half of the proceeds you pull out, where you could maintain and keep all of them through a ROBS set up.

So, this is something people should know and think about. Don't raid your retirement account until you've talked to people who know about this, and who can walk you through the particulars, and see if it's not a better fit to save half of your money. 

Paul Cook: Great point. And the word raid is accurate as can be because that's what you're doing- you're hitting something that you shouldn't. Quite honestly, Mike, that's one of the reasons that people look at me dumbfounded, and say, 'How come I've never heard about this? You can't do that. I've been taught my whole life I can't touch my retirement account until I'm old. If I do, I'm going to lose a bunch.' --Well, this vehicle allows you to avoid that losing a bunch right on the front end, and really take charge of what that return [00:10:00] might be now, because you're buying stock in something that you run on and operate.

It's a risk buying a bunch of stock in a single company, but it's calculated risk.

Kevin Schneider: Yeah. How does pulling money out of it work? I have, let's say, $500,000 sitting in a retirement account.

I quit my W2 job. I want to use that $500,000 to start my next business, but I also need to eat today. All the profits and income is going to go back into the C corporation that's inside of the retirement account. 

So, as me, the business owner who wants to eat... hopefully daily... how do I get my money out of the ROBS without getting penalized?

Paul Cook: Yeah. Good point. Fasting is good, but you don't want to fast for too long, so I'm with you

there. Let's follow the money flow first, and then I'll answer the question about what I'll call Personal Income- the income you're going to generate so that you can put the food on the table. There's really four simple steps to ROBS- takes only about three to four weeks to set it up.

 We're going to file New Corp- Step One. We're going to file [00:11:00] new 401(k) plan- Step Two. Those two entities put together. You're going to call up your old company plan provider. Say, 'I want to roll my money over.' --and you're going to get specific direct transfer paperwork because that's really a direct transfer from old retirement account to new 401(k), and, quite honestly, it makes a brief stop in this cash position in the name of the new 401(k). That 401(k), typically, is going to write a check to New Corp in exchange for shares of stock. 

So,the new 401(k) doesn't have any money in it- it holds stock certificates in the name of New Corp, and the cash is sitting in the corporate operating account. 

So now, corporation goes out and pays the franchise fee, hires employees, buys equipment, whatever legitimate business expense the corporation has- you've got cash in the corporation, now, to get this thing up and running. You have a fiduciary responsibility, yourself, to act in the best [00:12:00] interest of all shareholders, who are you and your retirement account. 

You need to do something of value. You're now able to start taking what's called reasonable compensation, 

but you're required to play an active role in the business. If it's your money that you rolled over, you're required to take a W2 income once the business can afford to pay you. The pro here is New Corp has a 401(k) plan. You're not only the owner-operator running your own company, you're also an employee of a company that is offering a 401(k) plan. So, 

Mike Pine: why not start making contributions back to your 401(k) like you did back in your corporate life? So now, your 401(k) should be growing two ways- One, through normal contributions, diversified out and whatever, and then, secondarily, it's growing on paper through the asset- that private stock in New Corp. Because someday, 10.. 20 years from now, when you sell New Corp, there's going to be a big [00:13:00] fat windfall going back to your retirement account because it was your partner in funding the deal. So, we always hear about these horror stories, or at least, us CPAs do, with self-directed retirement accounts from people doing self dealing. Let's talk about what is that? And how is that not an issue when you're paying yourself from your retirement account proceeds? 

Paul Cook: Yeah, great question. So, self-directed IRA is an awesome vehicle, and, probably, the number one non-traditional asset, if you will, that self-directed IRA investors invest in is real estate. Now, in that code section that governs self-directed IRAs, the IRS has a whole long list of Don'ts regarding a self-directed IRA. For example, if I'm going to go buy real estate, I can't live in that property. I can't rent it to my kids. I can't buy it from mom and dad. I can't do the capital [00:14:00] improvements myself on that real estate.

The money that the self-directed IRA generates, it's by a rental home. That money that's going back into the IRA is not lining my pocket. It can't. 

I'm not getting any money out of this, my IRA is, because it owns the property. 

 Now, ROBS- comes out of the exact same code section of self-directed IRAs- has two specific exemptions. Exemption Number One states, whatever you do must be considered an active operating company. It cannot be a passive investment like holding rental property. And it goes further to say, a definition of active operating company is any business that provides goods or services in exchange for payment. So, you want to go sell widgets or you want to go mow lawns- you can do ROBS. If you want to sell widgets or mow lawns in a self-directed IRA- not allowed [00:15:00] because you're self benefiting, and you're working in that investment your self-directed IRA holds. So, the second exemption is that stock offering that takes place. It's called Qualified Employer Security- QES- and this Qualified Employer Security, the stock can only be sold by a C corporation to a newly formed 401(k) plan. So, I'm going to do the QES stock offering between Corp and Plan. I've now set up ROBS correctly. Now I must... and here's where it flies in the face of self-directed IRAs... where I can't do anything in a self-directed IRA, I must be involved in the company. I must be an officer, a director, an employee. I must take a W2 at some point. I must participate in the 401(k). So, there's a lot of mirror image differences in the Don'ts of a self-directed IRA and the Must Do in a ROBS structure. So, it gets confusing. 

Some people have researched [00:16:00] self-directed IRAs already, and they think that's what they're setting up to do ROBS, and it's as far from the truth as can be. 

As you just said, Mike, you can't fund your own business and work for yourself, but actually you can if it's ROBS, and not the self-directed IRA. 

Kevin Schneider: Yeah. Once you start developing this business and you could start commanding a higher W2, which is the whole goal, right? So, if we have a ROBS, the only way to get money out of it is going to be through the reasonable compensation. So, once you are getting paid a reasonable compensation, what's reasonable for the owner of a

million dollar company that has margins of 30%? 

I mean, that's... 

Paul Cook: there you go. 

Kevin Schneider: ...terrific W2, and then, we can still tax plan on your personal. So tax planning isn't out the window if you use ROBS, because you're still going to be generating taxable income on your personal tax return via this W2. So, it's just a matter of how big can you get this business.

If you can command a couple million dollars W2 out of your '401(k)', that's great, 

[00:17:00] But, we're going to have to get really creative on the tax planning because a lot of tax planning for business owners happens inside of the business, right?

So, buying equipment, retirement planning, playing with expenses at your end, or if we can go accrual basis, there's so many things we could do on a business to save taxes. 

Paul Cook: Yeah.

I'm in a C Corp now. How do I best take advantage of tax strategy? Like you said, where do I do my accruals? Where do I do my write offs? What kind of a salary? How much of a salary should I take? 

 We're trying to remove a little bit of the corporate revenue to reduce a potential corporate tax, and still benefit myself personally.

So, there's a number of things you can do throughout, but also, how do we exit out of ROBS at some point?

Mike Pine: Yeah, let me start off with that one, Paul, because this happened a few months ago, but I met with a newer client. About eight years ago, he raided his 401(k) to the tune of about [00:18:00] a million and a half dollars, paid all those taxes, and started this new company. He was in his early thirties when he did that...

maybe mid thirties... and then, I met him right after he just had a huge exit. He's in his early forties. He's still got a career ahead of him. He sold for, like, 6 million dollars and he hadn't done any tax planning in the beginning. 

 So now, when he sold the company- not only did he pay a ton of taxes when he raided his 401(k) to start the company- now, all of his gain on the sale of the company was taxable. If I could have talked to him just eight years ago, and said, 'Man, let's create it with a ROBS.' --He would have saved

more than a half a million dollars in taxes right then and there. And then, that company would have been owned by a retirement account, so when he sold it, 

Paul Cook: it would have been a capital gain inside of 401(k) and he could continue to defer that.

Mike Pine: So, he wouldn't have paid any tax on the sale, or on the funding of it, and you contrast that with what he really had. Now, he [00:19:00] had over $5 million, I believe, in gain that we could not mitigate. It was too late. 

ROBS would have been perfect in this situation. 

Paul Cook: Yeah, that's a perfect example. And then, In C corporation, typically, you're going to want to sell your business as a stock sale because you're mitigating that first layer of tax, if you will. Okay. I've got some tax issues to deal with there. Not a lot. But in that guy's case, he's what, mid forties now? 

 What he probably should do is do ROBS again, go fund business Number Two, and push himself closer to 59 and a half. So, there's some pros and cons of exit strategy and ROBS based on age. That guy or that gal, whoever it might be, we'll probably talk to them more about an earlier exit strategy where they might decide to buy out their retirement account in the early years. it's usually an option looked at by those younger than me for sure. Probably Kevin's age.

It's a thought that that people need to consider whether ROBS make sense or not on the front end, and [00:20:00] most of the time they'll figure out it certainly does. 

Now, it's just a matter of how much should I use out of the ROBS?

Kevin Schneider: Yeah, and it's good to get a professional like you, and then a CPA like Mike or I, or some CPA you trust who understands this because you got to look at the end goal in mind. 

All these scenarios, we just played out-

the exit looks completely different. The cashflow looks completely different. So you need to make sure you sit down, talk through your goals. 

 Not all plans come to fruition, so there needs to be a degree of flexibility because what happens if your business goes under? 

Have you ever encountered that Paul? Like, let's say you start a business with $500,000 you burn through it with payroll.

The business needs more cash. Your retirement account's already drained. I mean, that's the risk here, right? How do you get more money infused back in the business? Can you get debt? What are the limitations on keeping this afloat? 

Paul Cook: Yeah. Good points. Good question. Have we seen businesses fail with ROBS? Sure. Not because they use ROBS.. Because, maybe, [00:21:00] they shouldn't have been a business owner, or possibly a wrong business. 

The call I get that says, 'Hey, I'm going to start up my own restaurant!' --and I say, 'Great! How come?' --and they say, 'Because I love to cook!' 

-- and I say, 'That's awesome! Have you thought about a business plan, yet?'

Paul Cook: I kind of hit him with little comments that make him think, 'Yeah, I better look into this a little bit more.' 

Hopefully, I would have gone out to seek some debt assistance. I think it makes most sense when you do a ROBS to always tie debt to it on the front end. So, if I'm going to go buy a $500,000 business, I'm not going to roll over $500,000. I might put $100,000 in, and go borrow $400,000 on an SBA loan. 

Debt is going to serve its purpose from a tax perspective, as well, as you guys know. So, I got debt to begin with, and I'm still struggling for whatever reason. 

 You can go borrow money out of your own home if you need to, and either lend your cash to your own business, or you can bring more of your own cash in as equity. 

 I might need to sell it to the next buyer- just [00:22:00] enough to get out from under my SBA loan. Now, we're zero. Well, bummer. Your retirement account bought a bunch of stock in your own company. You didn't perform and you lost that money. Is it a taxable or a penalty event? No, you're not getting taxed or penalized. You bought the wrong stock in the wrong company at the wrong time. As far as an additional penalty or tax, it was just a poor investment decision.

So, hopefully, that answer your question. 

Kevin Schneider: That was good. Cause often, even in our own business, we see seasonal fluctuations where cashflow is really good, then cashflow gets slim. And thinking about if I own everything through my retirement account, that would freak me out a little bit.

So it's not for the faint of heart, it seems like, because

 you manage your retirement account. But there's going to be that degree of extra risk, I think, compared to an S&P 500 that has shown 8%..10%..12% gains over the course of, [00:23:00] maybe, it's life that it's had, and there's no active involvement there, but I think the upside is a lot higher with the ROBS. If you're a good entrepreneur, you can grow your wealth a lot quicker than passively investing. 

Mike Pine: You're in control of it. I mean, 

there's two sides of that coin, Kevin. Past results don't guarantee future results. I believe I'd much rather be in charge and have some control over my investment in my retirement account than just leave it up to the gods of the stock market.

 them. 

Paul Cook: Well, don't forget you'll realize both of those things too, because remember, you're taking X dollars out of a retirement account to buy a bunch of stock in a single company. But remember now, you're running your own company, working for yourself, controlling your own income. But what is, is I'm able to take an income and defer some of my income back into A traditional 401(k). So, that's where I'm putting my bet back on the S&P, and I'm going to try to max out my 401(k). 

So I'm putting money back into the [00:24:00] market, but I'm still betting on that investment in my own company, as well, so it could grow up both ways.

Mike Pine: How do those other investments work? So again, let's say, we take all of my 401(k) out and I roll it into a ROBS, and after five years, I'm able to put $70,000 a year, or $69,000 a year away into my 401(k) to reinvest, but it's not like in a Fidelity 401(k) where I can just go online and pick their mutual funds.

It's with Guidant Financial's 401(k). How does that work? Is it similar?

Paul Cook: You're close. Yeah. your first comment was accurate. We're not the fiduciary- we're not the investment management platform of the 401(k). We are what's called the TPA. We're the Third Party Administrator on the back end taking care of all the stuff that people don't know about, which is the testing and reporting and filing of the plan. That's what Guidant does. But no, you're going to hook up with a Fidelity or an Edward Jones or your Vanguard guy or [00:25:00] whomever to Have them set up the investment side or the brokerage side of the plan that already exists in the corporation. I say it's a 'normal' 401(k) plan, for lack of a better description, but it allowed you, on the front end, to make another investment- an investment that's not made in your traditional 401(k), and that other investment was a bunch of private stock of New Corp. so I have two assets in my retirement account- private stock in my own company, just growing on paper, may not be growing at all in those early years. My contributions are just like normal growing through whatever stocks, bonds, mutual funds I'm investing in.

Mike Pine: Very cool.

Kevin Schneider: So, what's the cost to get into one of these? If I'm going to create a ROBS, and I have $500,000 sitting in my retirement account, can I pay my fees out of that retirement account? Or do you charge your fees and all the [00:26:00] administrative fees once the C corp set, and then, we can pay it out of the business as an ordinary business expense?

 Yep. Great questions. So fees are simple. Fees don't change based on dollar amount, and you're rolling over $50,000 or $500, we're still charging the same fee.

Paul Cook: It's a flat fee. It's $4,995, just under $5000- includes the corp, the plan, legal counsel on the front end, overseeing the rollover, the bank accounts, all of those steps in that initial three to four week setup process is all wrapped up in that $5,000. The IRS says, 'No, you cannot pay the fee of the ROBS promoter.'

--That's us. --'You cannot pay that out of your rollover. Not allowed.' --So, you're going to put it on a check or credit card on Day One. 

 The ongoing cost is negligible, but it's there, so they should factor it in. This is a business expense. Moving forward, it's $149 a month, if they're going to use us as the plan administrator, which quite [00:27:00] honestly, probably 97%..98% of our clients use us to take care of the plan. So, just build that into your corporate budget, and that'll keep the plan squared away, moving forward.

Mike Pine: You said, unlike an IRA, with ROBS, you are required to be in an active business.So, if I am a real estate professional and I materially participate, I am an active real estate professional.

Can I go buy rental real estate with the ROBS? 

Paul Cook: Short answer, 'Yes'. long answer is, 'What does active mean versus passive?' 

--Unfortunately, there's not an answer written anywhere.

there's some things that we would need to explore and dive into to see if what you're trying to do with real estate is going to fly with the rules, basically.

Mike Pine: 

I just want to point out that you gave the story where you had two examples that you cannot do it, 

and then, you finished it with, 'Oh, but you can do it if you do it right.' --I love that about taxes. I 

love that. [00:28:00] Yeah, some people call ROBS a loophole. It's not a loophole. It's a big gaping hole That says, 'You always could have done this.' It's always been there. It just has to be done correctly. Same with self-directed IRAs- awesome vehicles! Scare people because haven't heard about it, and they don't understand it. So, that's why we're here to educate people.

Kevin Schneider: Awesome. 

Paul Cook: 

great questions today. I know you guys now understand and see the value and the power of ROBS. It is that weird, widely kept secret that we've been trying to know, get the word out for 21 years, here at Guidant. 

so happy to talk to any of your clients at any time. sometimes the answer is going to be 'No'. Sometimes, what they're trying to do flies in the face of the rules, or doesn't work, or, quite honestly, might not be mathematically sound. So we'll hear what they have to say, get them up to speed and educated on how this structure can potentially allow them to become an entrepreneur and drive their own income, and their [00:29:00] own retirement income, forward.

I think my information is going to be here on the screen, but happy to talk to you, and look forward to hearing what your stories are about entrepreneurship. Thanks for having me guys.

Mike Pine: Thank Thank you, Paul, from Guidant Financial. ROBS- we'll have to do this again and go to ROBS podcast 2.0 and get in some more nitty-gritty details, and more complicated stuff, because there is so much you can do with ROBS. Thanks again for being here, and we'll talk to you soon, Paul.

Paul Cook: Thank you both. Take care of guys.

Kevin Schneider: Thanks Paul.