Using Your 401k to Buy a Business or Grow Your Business

For many in the workforce their 401k can  represents a large portion of their net worth.  Many don’t realize that  they can use these funds to buy a business even before they reach 59 1/2 without incurring the often heard of  penalties and negative tax consequences.  Many of those that buy a business or want to buy a business are currently employees for others.  Future business buyers are currently working for someone else.  And there are many employed that are earning their hourly wage or salary, have minimal savings, but have accumulated a healthy balance in their 401k.

Using 401k To Buy A Business

This is ones safety net for the retirement years.  Even considering using this “security blanket” to fund your business or to use to buy a business needs to be well thought out and involved the counsel of your accountant or financial advisor.  Using your own savings, borrowing from family or friends, borrowing against equity of your own home are all means to fund your acquisition, and some more desirable than others.

I consider myself a somewhat conservative entrepreneur( which may sound like an oxymoron).  But the more I involve myself with the dilemma or how to finance business acquisitions, and are banks really loaning money to those that want  to buy a business, and more specifically are banks making smaller loans to those that want to buy a small business  (say $200,000 and lower) other means of financing should be considered. Ive always felt that banks do provide loans to those that can prove that they dont need it, and now that point is even stronger than in the past.

An SBA loan should be explored.  They are available and the requirements for documents, security, and your financial well being can be both daunting and take considerable time.  But one should explore this option.

Furthermore, when I initially hear of someone using a 401k to either fund a business or buy a business, I think penalties, fees, and shrinking nest egg.  But like so much in the accounting and tax world the devil is in the detail.

Using Your 401k Money To Buy A Business Can Mean Many Different Things

Using your 401k can mean ….

1. Just taking money out of your 401k .  – Just a Bad idea for so many different reasons

2. Taking a loan from your 401k- Most plans offer this options, there usually is amount restrictions, but you do pay interest back to your self.

3. Setting up a Self directed qualified plan(using a third party that specializes in this process)  that allows you to purchase  a franchise, or  buy a business without distribution, taxes, penalties, or the use of loans.

Setting up a Self Directed Qualified plan involves the following steps:

  • Form a C-Corporation
  • Prepare the adoption documents for your New 401k plan for your new corporation
  • Corporation Valuation
  • Rollover- direct rollover from your 401k plan into your new account
  • You as a Trustee will transfer money into your corporation checking account

Please note the above is a simplified summary, but does represent the spirit of the steps involved with setting up a Self directed plan to buy a business. There  are cost to hiring a third party to administer setting up a self directed Plan to buy a business.   It is their job and responsibility to guide you thru the specific process.

Using 401k To Buy A Business As A Last Resort

There are also some additional annual reporting requirements to be done by your accountant.   But if one wants to avoid a bank, or avoid borrowing from family or friends, or avoid borrowing against your home, then maybe using your 401k to set up a self directed plan to buy a business warrants further investigation.

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About Scott

Scott M. Messinger is a former and current business owner that has personally purchased 8 + businesses. Former owner of successful production/manufacturing/distribution business of 20 years that was successfully sold and transitioned. Member of Gateway Business Advisors serving South Carolina Florida and Southeast USA. Member of the Business Broker of Florida Assn. For a FREE current listing of Businesses FOR sale see: call South Carolina (864) 210-8226 Florida (239) 770-2421