Accountant Joe Kristan of Roth & Co. has an informative post on the IowaBiz Blog discussing the dangers of using IRA retirement monies to fund a startup business. In the situation described, a would-be entrepreneur took about $320,000 from his 401K and rolled it into a self-directed IRA. From there, the entrepreneur invested almost all the funds into a new corporation. The IRS said this was a prohibited transaction that made the entire $320,000 immediately taxable. The tax court agreed and the entrepreneur owed $163,123 in taxes and penalties.
Many prospective franchisees choose to fund their new franchise purchase by using retirement funds. Franchise consultant Joel Libava asked in a blog post whether it is getting riskier to use your 401K to fund your start up business. Libava’s post is a good one and he says he is comfortable with the plans if the paperwork is "perfect" and the business owner is in a good position to leverage his or her plan. But it’s pretty clear that if you are considering the use of retirement monies to fund your business startup, you must be sure to plan carefully and seek advice from knowledgeable tax and legal advisors.
Some advisors like accountant Joe Kristan still are not hip on the idea saying,
They are at best a startup funding source of last-resort — and if your business plan requires them, you might want to reconsider your business plan.
So be careful if you choose to fund your start up business with retirement monies. And if you have questions on tax and business issues I’d highly recommend Joe Kristan’s Tax Updates Blog for other timely and informative articles.