Using retirement savings to start a business through Rollover for Business Start-Ups (ROBS) plans can be a game changer. It’s a big move that comes with big opportunities—but it also puts a spotlight on you from the IRS. Understanding what triggers an audit can help you keep your ROBS plan on the safe side.
Skipping the Proper Setup
Setting up your business incorrectly is one of the easiest ways to land in hot water. For starters, your new company needs to be a C corporation—that’s a nonnegotiable IRS rule.
On top of that, you need to create a compliant 401(k) plan for the business and properly transfer the funds. Miss any of these steps, and you’re practically waving a red flag at the IRS. It’s a lot of paperwork, but getting it right builds a solid foundation for peace of mind.
Using Rollover Funds Like a Personal Piggy Bank
Rolling over your retirement savings doesn’t mean you have free rein to spend the money however you please. The funds are strictly for legitimate business expenses.
That means no sneaking in a new car for “business travel” or treating yourself to a fancy chair for your home office (nice try, though!). Even small personal expenses can lead to serious scrutiny. If you keep clear records of where every dollar is going, you’ll stay on solid ground.
Sitting on the Sidelines
The IRS expects anyone using a ROBS plan to be actively involved in the business they’re funding. Basically, you can’t just funnel your retirement money into a business as a passive investor and sit back while it (hopefully) grows.
You need to officially work for the company and play a real role in its operations. The idea here is to prove you’re genuinely interested in building a business—not just looking for a sneaky way to tap into your retirement savings early.
Dropping the Ball on 401(k) Plan Maintenance
The plan associated with your 401(k) Rollover for Business Start-Ups isn’t a set-it-and-forget-it deal. It comes with ongoing responsibilities, like filing reports on time, properly managing employee contributions, and offering access to eligible workers.
Even small errors in handling the plan can attract IRS attention, and those errors could cost you. Staying organized and checking off those to-dos (boring as they may seem) makes a big difference in keeping everything above board.
Running a Business That’s Constantly in the Red
Nobody expects a new business to turn into the next Apple overnight, but if your company keeps losing money without any signs of a turnaround, the IRS might take notice.
They’ll wonder if you really created the business to succeed or if it’s just a loophole to get to your retirement funds early. Showing the clear steps you’ve taken to build and grow the company, even if things are slow, goes a long way in keeping curious IRS agents satisfied.
ROBS plans open the door to turning your entrepreneurial dreams into reality, but they come with strings. Knowing what triggers an IRS audit helps you avoid unnecessary headaches. Keep your business and 401(k) plan on the up-and-up, stay actively involved, and document everything like your future depends on it (because, honestly, it might!).
Want to focus on building your dream instead of explaining it to the IRS? Pango Financial’s funding solutions tool gives you some financial know-how to get started.