Funding is one of the biggest hurdles anyone planning to invest in a franchise business faces. Unless you have hundreds of thousands of dollars saved up for a rainy day, many people who want to transition from employee to business owner need to seek out loans from friends or banks to use for capital. However, if loans are not an option, either due to a denied application or personal reasons, you can tap into your personal retirement account to finance a franchise.
Sound interesting? Well, it is. It’s an underused funding option mostly because people are afraid of touching their retirement account, and rightly so. But if you’re willing to gamble your future to buy a franchise with a solid business plan, then check out these two ways of using your retirement account for business funding:
1) Get a loan from your IRA/401(k) – Depending on the terms of your IRA/401(k)plan, you may be eligible to borrow up to 50% of the account balance, or a maximum of $50,000. The best thing about this is that unlike traditional loans, you wouldn’t need to setup a repayment plan with interest. Of course, if the franchise you’re eyeing requires more than $50,000 for fees and startup capital, you will need to look at other avenues to obtain the remaining funds.
- No loan application needed
- No credit score requirements
- Option to create automatic paycheck deductions to repay the loan
- Loans aren’t protected from bankruptcy or creditors (unlike your 401(k) retirement plan)
- Not ideal for those who are still employed
- Double taxation (pay interest back into the 401(k) plan with after-tax fund)
2) ROBS – The second method uses the ROBS plan, or “Rollovers as Business Startups.” The advantage of this method over a 401(k) loan is that ROBS can go over $50,000 and combined with other people’s 401(k) using the same method. It can also be used with an IRA account and doesn’t have the strict repayment requirements attached to a direct 401(k) loan.
ROBS involves following specific legal steps to set up a new company for your franchise, establish a retirement plan within the company, and then “rollover” (or transfer) your 401(k) money into the corporate plan. This account then allows you to invest in a business without incurring any debt, rushing to pay interest, or paying for early withdrawal penalties.
- No income tax or early withdrawal penalties
- Does not affect personal credit scores
- No impact on personal assets
- No interest payments means chances of getting deeper in debt is reduced significantly
- Retirement funds can be doubled
- Risk of losing money (just like any kind of business)
- Businesses built using the ROBS method sometimes get audited by the IRS
- Franchise must operate as a C Corporation with a company-provided retirement plan offered to employees
Funding a franchise with your 401(k) has its share of advantages and disadvantages, but it’s good to know you have two options – a loan or ROBS – if you wish to go this route. It’s also important to seek the advice of an attorney and/or financial professional to determine if either of these methods is right for you.
If you do decide to use a retirement account to finance a franchise business, you have hundreds of business models to choose from. You could talk to several franchisors individually, or you could work with a franchise consultant. At National Franchise Business Solutions, we have access to over 600 franchise brands across a wide range of industries. We provide free, unlimited consulting, and through a multi-step process, we help match entrepreneurs with the franchise business that best suits their passion, skills, and budget.