The End of Small Business Financing with IRA and 401k Funds? (Part 3)

mystery

Ok, now it’s time to solve the mystery. (Final Post) [see previous here]

In 1978 Jimmy Carter reorganized the government with this order, and this took the issue of retirement account prohibited transactions away from the domain of the IRS and gave it to the Department of Labor (DOL).

This fact was unknown to (or possibly ignored by) the ROBS promoters who claimed the IRS ROBS letter confirmed the validity of the ROBS strategy. The truth is that the IRS letter did not say whether or not the ROBS strategy creates a prohibited transaction because the IRS didn’t have the authority to say it. It was the authority of DOL. Ah, what fun bureaucracy can be.

Speaking with the Proper Authority

Now, I’ve known about this transfer of authority ever since the creator of the IRA LLC (late attorney Debra Buchanan) told me about it back in 2004. So I’ve been in close contact with DOL employees for several years. Here’s where the bureaucracy gets funny (or scary, depending on how you look at it).

A couple of weeks after the IRS ROBS letter came out, I called my friendly DOL contacts to ask, “What do you think of the ROBS strategy that the IRS just wrote a letter about?” They responded with, “What letter? What is ROBS?”

[If my friends at the IRS and DOL are reading this now, don’t take offense. Everyone knows that government agency intercommunication is kind of like Big Foot and the Loch Ness Monster. It’s not your fault.]

So I faxed the IRS ROBS letter over to DOL. I was happy to do this for the IRS because I know they are really busy.

Finally… the Meeting

My annual trip to Washington, D.C. was scheduled for about six weeks later. So this gave DOL plenty of time to review the letter so we could discuss it at our meeting.

When the meeting came in December, all of the mystery surrounding ROBS collapsed with a couple of straightforward sentences out of the mouths of the decision makers at DOL (paraphrased):

The ‘qualifying employer securities’ exemption means that transaction of the plan acquiring stock from the C corporation is exempt. BUT, this exemption doesn’t throw the rules out the window for looking at the whole strategy. This whole strategy generally provides an ‘outside-of-the-plan’ benefit to the participant, who is a disqualified person. Thus this strategy creates a prohibited transaction.

Bear in mind this unofficial conversation is, well, not official. What would make it official is if I (or anyone else) submitted a written request for a DOL “Advisory Opinion” letter that explains whether the ROBS strategy is a prohibited transaction.

These DOL guys indicated that such a request would be met with an Advisory Opinion declaring ROBS illegal.

Don’t Kill the Messenger

There it is, folks. End of story. ROBS is a prohibited transaction. Many people and attorneys can disagree, but it comes down to 4 guys at this government agency in Washington, D.C. to provide the interpretation of the prohibited transaction law. In other words, it doesn’t matter what anybody thinks except for them. And they think you owe the government a 115% tax (on the amount of money involved in the scheme) if you do a ROBS.

Up until this meeting, I was just as hopeful as anyone that ROBS would come out of the gray area in a favorable conclusion. I don’t want to end this topic on an disappointing note, so I will be throwing out some ROBS alternatives in a future post.

Reader Interactions

Comments

  1. Great post. I am not surprised. The ROBS strategy would be something I would stay from. Companies trying to make a fast buck will tell amyone just about anything to make a sale. Wall Street is proof of that. I think with the growing deficit, the revenue shortage at the IRS, the tax thristy administration coupled with the ROBS letter from the IRS should make it clear to any thinking person where the DOL is going to side on the ROBS issue once they flex their muscle. Again, I am glad you took the time to put these posts out on your blog.

  2. There was some useful commentary on another page, so I’ll paste it here:

    ———————

    Jeff,

    I am receiving so much conflicting advice on the subject of financing a franchisee business from a self directed 401K attached to a C corporation that I would be the sole owner of – it is unbelievable. I was very interested in your series of articles – culminating in your 3rd article with the interpretation that the so called ROBS strategy is illegal and under such a strategy I would be fully liable for taxes and penalties on the 401K funds used toward the business.

    Another advisor is telling me that your interpretation is clearly missing the fact that 401k rules allow an exception to the prohibited transactions rules for participant investment in employer stock and further does not reflect the fact that the strategy has been used by 1000’s of small business owners for more than 10 years. He says there has yet to be a single action brought forth against any employer or service provider.

    Color me confused. Can you please address this other advisor’s rebuttal to your interpretation.

    Thanks,
    Jeff (reader)

    ——–

    Jeff,

    Sure. It sounds like there are 2 rebuttals.

    1) MISSING THE EXEMPTION – If you read my 3 part post carefully, I am not missing the exemption at all. In fact it is clearly addressed in Part 1. The exemption is for “qualifying employer securities” and this exempts the acquisition of the stock as an isolated transaction. It does not exempt the entire scheme from ERISA or IRC 4975 (prohibited transactions). Check out the DOL Advisory Opinion 2006-1A. This set the precedent that 4975(c)(1)(D) and (E) are always applicable to retirement plan strategies regardless of exemptions and staying within certain % ownership amounts in an attempt to create loopholes.

    2) THE STRATEGY HAS BEEN USED THOUSANDS OF TIMES – Unfortunately, whether something has been done a lot has absolutely no effect on whether it is illegal. It all comes down to the written law and how the government applies it. The reason there has yet to be a single action is because nobody has asked DOL to give an official opinion on it. ROBS firms don’t ask because they are afraid of an unfavorable answer. The important thing to note is that the ball is in THEIR (the government’s) court. If they have not gone after thousands of people who have broken the law, it doesn’t mean that the law wasn’t broken. And they can choose to go after these entrepreneurs whenever they want, resulting in 115%+ taxation.

    – Jeff (author/blogger)

    p.s. The “this has been used thousands of times” argument is possibly a bad thing. If a tax law has been abused and broken through a certain strategy, the more the strategy is used the closer it comes to reaching a point where it is “worth it” for the IRS to allocate resources to cracking down on it.

    If ROBS was used 10 times and the IRS could only collect a couple million dollars in tax revenue, they couldn’t really afford to assemble an effort to do so. On the other hand if ROBS was used 5,000 or 10,000 times, there are hundreds of millions of dollars (possibly over $1 billion) in tax revenue for the IRS to collect by creating a program that goes after the scheme.

    Furthermore, the more ROBS setups a particular firm has done in the past, the more likely they will be a primary target of the eventual enforcement efforts.

    It’s a weird situation. The DOL makes the rules (or at least interprets them) and the IRS enforces them. Lack of agency intercommunication is part of the reason that ROBS hasn’t been totally shut down, but this zero enforcement phenomenon isn’t likely to last.

  3. Jeff — What statutory provision did the DOL folks use as their basis for concluding that 4975(d)(1)(C) and (E) “always apply”, notwithstanding the fact that 4975(d)(13) unconditionally exempts QES transactions from the prohibited transactions rules? The statutory language seems to simply remove 4975(d) in its entirety with respect to QES purchases by a plan.

    Thanks, Mike

  4. Nice work Jeff. It should give people pause when it obviously works around the spirit of law (our plans are to invest for 59.5 and beyond – not benefit us now. Far better to stay focused on clearly permissable wealth building strategies in IRA LLC and Solo 401k vehicles. Keep up the good work.

    John

  5. Mike,

    (d)(13) exempts “any transaction that is exempt based on [certain ERISA sections]”

    ROBS promoters claim that these exemptions exempt EVERYTHING.

    DOL says that they exempt the transaction rather than the transactions. In other words, what (d)(13) exempts is the acquisition of the stock. It doesn’t put the whole retirement plan and the adopting employer and the participants and the entire scheme into a realm of no regulation, no rules, and no prohibited transaction law.

    If a person used their plan to acquire “qualifying employer securities” and then didn’t do anything else in any way to use their retirement plans to benefit themselves outside of growing the plan value, then ROBS would be compliant. But, the fact is, most ROBS users then receive compensation from their company which is a clear benefit to themselves.

    Also, in addition to the plan’s ownership, most ROBS users personally/directly own a small percentage of the corporation in order to avoid the corporation being considered a “plan asset.” The problem here is that the co-ownership of the corporation between the plan and the disqualified person gives the DOL/IRS even more grounds for considering there to be a prohibited transaction because DOL Advisory Opinion 2000-10A essentially says that “if a plan and a disqualified person co-invest in a venture, it is prohibited if the capitalization of the venture could not have occurred without the inclusion of the plan’s investment.” What this means in the case of ROBS is that “if the retirement funds were needed in order to fund the business, it is a prohibited transaction” according to DOL AO 2000-10A. And, of course the retirement funds are needed to fund the business… that’s why they would be used in the first place!

    Check out this Advisory Opinion too:

    http://www.dol.gov/ebsa/regs/aos/ao2006-01a.html

    If you want more info about DOL’s logic process:

    “See 29 C.F.R. § 2509.75-2(c); Opinion No. 75-103 (Oct. 22, 1975); 1978 WL 170764 (June 13, 1978). Further, prior to the promulgation of the Department’s plan assets regulation, 29 C.F.R. § 2510.3-101, the Department had issued Interpretive Bulletin 75-2 which discusses certain prohibited transactions under section 406 of ERISA or section 4975 or the Code. As indicated in the preamble to the plan assets regulation, part of Interpretive Bulletin 75-2 was revised to coordinate it with the final regulation (51 Fed. Reg. 41278). The remainder of the Interpretive Bulletin 75-2, published at 29 C.F.R. § 2509.75-2(c), remains in force and was not affected by the plan assets regulation. Regulation section 2509.75-2(c) sets forth that a transaction between a party in interest and a corporation in which a plan has invested may constitute a prohibited transaction under certain circumstances. Such transactions are prohibited regardless of whether or not they meet the plan assets regulation.”

    The logic can be confusing, and that’s why it’s possible for some attorneys to feel that ROBS is compliant.

    All in all, if anyone wants an unquestionable final answer, all they need to do is have their attorney request an opinion letter on whether ROBS creates a prohibited transaction. I have had mixed feelings about doing that myself because I don’t promote ROBS. I think most ROBS promoters haven’t done this because they fear an unfavorable answer that puts themselves out of business.

    – Jeff

  6. Mike,

    Well I don’t really want to run people out of business. That’s why I’ve been reluctant to tell this story and why I’ve been on the fence about writing in for a DOL Advisory Opinion request. But all in all, at the bare minimum I figured this information should be out there for anyone who wants to get to the bottom of the matter rather than jump at the first cool sounding scheme.

    Thanks for your support 🙂

    Jeff

  7. Jeff,
    Two questions.

    The IRS published the ROBS letter in October/November 2008. You visited your DOL friends in Washington six weeks later – I’m assuming January 2009. Why wait until October 2009 to post your comments?

    The following quote is from the body of the post above:
    “The ‘qualifying employer securities’ exemption means that transaction of the plan acquiring stock from the C corporation is exempt. BUT, this exemption doesn’t throw the rules out the window for looking at the whole strategy. This whole strategy generally provides an ‘outside-of-the-plan’ benefit to the participant, who is a disqualified person. Thus this strategy creates a prohibited transaction.”

    If a participant uses funds from a SDIRA, or SDIRA LLC, to acquire listed shares of the participant’s employer, does this provide an ‘outside-the-plan’ benefit to the participant who is a disqualified person?

    If a participant owns shares of his employer in a traditional IRA would that be a prohibited transaction according to your DOL contacts? Many thousands of people own equity of their employers in IRAs and it sounds like the DOL folks you spoke to would find that the salary the participant earns ‘outside the plan’ would make this a prohibited transaction.

  8. Tad,

    Good questions 🙂

    1) As I alluded to earlier I have had mixed feelings about sharing this information because of how it might effect other people. It would obviously be harmful for some people and helpful for others. It’s not that I made a conscious decision to not tell this story for a year; instead, I just wasn’t sure about it and because of my busy schedule almost a year passed.

    2) I don’t know what you mean by “listed shares.” The question on whether the acquisition of QES shares provides an outside-the-plan benefit to the participant is dependent on circumstances. But the general circumstances of the people to whom ROBS is promoted make for a PT if ROBS is used.

    ESOP plans have been around for a long time. Employees of big corporations have commonly used 401k funds to buy stock in the corporation. In those cases, the percentage of the company’s capitalization that came from one participant’s QES purchase is insignificant. Example: Joe works for a $5 billion company and invests $10k from his 401k into buying company stock. He has bought around 0.002% (two thousandths of one percent) of the company. His purchase did not keep the company from going under and thus increase his job security. His purchase did not enable him to get a raise or bonus. His purchase did not have a significant impact on the company’s ability to grow. His purchase did not launch the company. In short, his purchase is insignificant and unlikely to truthfully provide an outside-the-plan benefit to himself.

    On the other end of the spectrum, the application of the ROBS scheme is almost always a matter of setting up a new company and having the plan fund the majority of it. Usually one or more disqualified persons work for the company. Usually one or more disqualified persons own at least 5% of the company outside of their retirement plan. In short, the plan’s ownership of company stock is significant and the disqualified person’s non-plan ownership of the company stock is significant… and the decision to invest the plan has a significant impact on the participant’s ability to work for the company and the participant’s future value of his personally (directly) owned stock.

    To an entrepreneur thinking of promoting/selling ROBS or to an entrepreneur thinking of setting ROBS up to fund a small business, there is a tendency to really want ROBS to be PT-compliant and to find a little bit of favorable logic and close the case and move forward with ROBS. Unfortunately, digging deeper results in an unfavorable conclusion that says ROBS is generally in violation of prohibited transaction rules.

    I hope this answers your two questions and provides further clarity.

    – Jeff

  9. Tad,

    I just re-read your 2nd question and I may have totally missed it. I responded as if you were asking

    “Is ROBS really illegal? Really really? Are you sure?”

    …when you were basically asking a totally different question (I suspect), relating to IRAs rather than ROBS and 401(k) schemes.

    First, the employer of an IRA participant is a disqualified person, according to IRC 4975(e)(2)(C). So what you described would be a blatant prohibited transaction.

    Second, the exemption that ROBS promoters unsuccessfully attempt to claim is an exemption that is only for qualified plans (like a 401k) and not for IRAs.

  10. Jeff,

    Like yourself my concern is simple, asking DOL for an Advisory Opinion could be the straw that breaks the camels back. That can of worms could devistate 10’s of thousands of retirees, current 401’s, & IRA’s. My vote is to avoid the ROBS and try to guide our efforts to safer structured investments.
    thanks for your dilligence.

    DRJ

  11. Not to mention the name of the company that set up my 401k to fund my C corporation, but they showed me a letter from the IRS specifically approving their plan. This would seem to protect my plan, even if future plans are not permitted.

    As I read the original letter from the IRS I take it to mean that the general concept of funding a C corporation from a 401k is completely legal. The issue they bring up is that many plans have not been implemented in compliance with the law.

    What about Grandfathering? If there is a negative interpretation by the IRS, what happens to the existing plans? The IRS has accepted tax returns etc. for many years.

    There was a period of a year or so after the IRS letter asking for comment and inviting the companies who sell these plans to discuss the issues. This must have helped resolve the concerns on both sides.

    The companies that have been selling these plans are still selling them. If they are doing this knowing the plans are not permitted by the IRS then they could be setting themselves up. Having talked to them they feel confident that their plan is legal.

    Please post comments.

  12. Ric,

    I think you’ve missed the bottom line of this 3-part post, so allow me to reiterate:

    The IRS does not have the authority to rule or opine on this matter.

    I know that sounds strange, but it’s the truth. The question is a matter of compliance with Prohibited Transaction law (IRC 4975). Presidential Reorganization Act No. 4 (1978) took the power away from the IRS to interpret IRC 4975 and gave it to Department of Labor.

    If you have an IRS letter, it probably just states that your plan is a qualified plan. That kind of “opinion letter” doesn’t touch on what can be done with it.

    If you take a qualified plan and enter into a scheme that DOL considers a prohibited transaction, then applying the letter of the law would usually mean 115%+ taxation on the amount involved.

    Another read of this 3-part post probably won’t hurt if you really want to get to the bottom of this and fully grasp it.

    I hope this reiteration of the main confused point was helpful to you. 🙂

    Jeff

  13. Peggy,

    That’s right. Interestingly enough, ROBS promoters don’t want to commit business suicide!

    As for whether IRC 4975(c)(1)(D) and (E) endure in all situations, DOL Advisory Opinion to Debra Buchanan answered that in 2006.

    Here’s the previous sentence restated in human speak:

    In 2006, the government answered the question of whether or not loophole-type schemes could get around the prohibited transaction rules and the answer was “no.”

    Smart attorneys get this. Sloppy attorneys don’t. ROBS promoters that aren’t attorneys only get that selling stuff makes them money.

  14. What about the Pension Transfer Trust, where there is a multiple employer plan has a seperate from the company administrator?

  15. Jimmy,

    I have no idea what you’re talking about.

    ROBS is a fairly specific structure and that’s what these 3 posts are about. I hope you found them helpful.

    Jeff

  16. Jeff:

    Please forgive me if I am confused.

    I onced worked for Citigroup. I funded a SDIRA with Citigroup who became the Administrator, Trustee and Custodian of my IRA. On my direction, Citigroup purchased shares of Citigroup for my IRA. Do I understand that this was illegal ? If I can’t trust Citigroup to keep me out of trouble, who can I ? (and don’t say AIG 🙂

    Thanks,
    John.

  17. John,

    That doesn’t sound illegal. All the rules are pretty much null and void for publicly traded securities. All laws related to investment effectively serve the purpose of creating obstacles for individuals and small businesses and steer all money and investment activity to large businesses and Wall Street.

    – Jeff

  18. Though many individuals have written that entrepreneurs are looking to access their retirement to start or finance a business because of the down turned economy, the truth is that the search for financing has always been a significant hurdle which entrepreneurs have had to overcome. Less seasoned entrepreneurs have turned to their retirement because they cannot secure debt financing from a bank, their business opportunity is not suitable to secure equity investors, and they don’t’ have savings. While seasoned entrepreneurs continue to source capital from investors.

    ROBS promoters are the issue because they sell ROBS transactions, en masse. Because ROBS promoters represent themselves as industry experts who charge their customers a premium for a corporation and retirement plans, their clients are often reluctant to seek independent counsel to ensure that the transaction and the offering conform with both federal and state laws. In my experience, ROBS promoters routinely overlook the securities issues and rely on Rule 701 which does not apply to ROBS transactions. Employers that are represented by seasoned and experienced employee benefits attorneys with securities experience can properly direct their plan to purchase employer securities, when appropriate, in compliance with all the applicable federal and state laws.

    Between ROBS Promoters and franchisors/business brokers, first time entrepreneurs don’t have a chance. ROBS promoters, like Benetrends, Guidant Financial Group, FranChoice, CatchFire, and others heavily market and promote the use of retirement money to start or purchase a business, typically, a franchise. More common than not, franchisors and business brokers refer entrepreneurs to ROBS promoters who pay the referring franchisor or broker a referral fee or offer the referrer’s client a discount on their ROBS transaction if purchased. The franchisor and business broker have a vested interest in the entrepreneur accessing their retirement to start or acquire a business because each will walk away with a chunk of the entrepreneur’s money. ROBS promoters are not independent licensed advisors, but self-interested sales people who are self-proclaimed experts. Most of them know just enough to be dangerous.

    Currently, the law does permit a retirement plan to purchase employer securities. The idea behind this law was to provide employees an opportunity to invest in their employer. The law was not created to allow entrepreneurs to access their retirement to start or purchase a business. (See http://www.RainsExchange.com for more on this topic). There are all sorts of fiduciary issues that arise when a company offers employer securities to its retirement plan as an investment option, but ROBS promoters won’t tell you about those issues because it may discourage you from purchasing their transaction.

    Listen, the short of it is this…BUYER BEWARE. Don’t rely on advice from self-interested persons who have a vested interest in you accessing your retirement to start or purchase a business. Always consult with a licensed attorney and not self-proclaimed experts whose only credentials are documented in their own marketing materials.

  19. A humble opinion in the midst of so many differing authorities and opinions – It seems if the entrepreneur creates a) C-corporation, b) a 401K plan that enables investment in the newly formed corporate stock, c) satisfies federal law and guidelines as it relates to the 401K plan, and d) assigns an independent trustee of the 401K plan, then this would establish a legitimate transfer. So the legitimacy pf the transaction would at least in part depend on the status of the 401K trustee or trustees. Presumably by having an independent trustee (e.g. institutional), this removes potential conflicts of interest. So the goal here is to create an EQUAL employment opportunity – not just for the entrepreneur but for qualified potential employees.

    In an economy that desparately needs significant private investment while protecting those that are susceptible to cons and “schemes”, shouldn’t the government and its agencies, try to enable a shifting of trillions of dollars into the hands of the responsible public – rather than in the hands of “legitimate” Wall Street greed that pays itself bonuses that are egregious at best, and irreparably damaging to the economy at worst.

    Who is really paying the bills of these legitimized behaviors of investment fiduciaries? We talk about he danger of potentially “stealing” millions or billions from the government through ROBS … again with all due humility, that is an absurd proclamation.

    We’ve just witnessed perhaps the worst industry-wide thefts on the working public’s retirement resource and it has become an unprecedented taxpayer burden.

    Let’s just make sure we’re chasing the right “bad guy” folks.

    Thx

  20. Bemused,

    A thoughtful opinion, and a healthy discussion.

    Shouldn’t the government put the people’s money in the hands of the people?

    YES. In my opinion at least. And I mean that in the most literal and complete way.

    Unfortunately, both the criminal politician and the naive fellow attempting to bend the actions of the government into a benevolent direction disagree.

    These fellows think we aren’t smart enough to be left with our money.

    That’s why taxes are collected. We are supposed to be such fools that we couldn’t protect ourselves from theft, fire, or any other evils without a nice old government to force its hands into the pockets — mine and yours — and see to those matters on our behalf.

    Because these fellows exist and have built the largest, most powerful organization in the history of the world, we have hundreds of thousands of pages of laws and regulations no man has read in entirety.

    And a particular little collection of those laws and regulations is what this 3-part blog post is about.

    And, as is repeated thoroughly throughout the post and its comments, here’s the deal:

    Congress writes laws. Certain other groups interpret them and talk about them through regulation. In the case of ROBS, that’s the Department of Labor.

    DOL says, time and time again, that no matter how many rules are followed or how many exemptions are rightly claimed, nothing trumps IRC 4875(c)(1)(D) & (E).

    And “(D) & (E)” say that YOU cannot direct your plan to do something in your own interest. That is, of course, beyond your interest in building wealth for future taxable distribution.

    If you can demonstrate that a ROBS sequence of transactions does not benefit you beyond future taxable distributions, then the regulators and courts may be okay with your situation.

    The purpose of this article is to shine a light on the much more commonly occurring sequence of ROBS transactions — the ones where the plan participant has acted in a manner designed to benefit himself.

    Things like taking a salary or earning a large profit on the shares owned by the participant personally are a dead giveaway to the regulators and courts that a prohibited transaction has occurred.

    Is the guy who does a ROBS prohibited transaction a “bad guy”?

    In my opinion, morally, the regulators and courts are clearly the bad guy for financially attacking a person for trying to make use of his own money.

    In my opinion, morally, income tax is the instrument that has recreated slavery, literally, and society at large will not see it. If you can’t keep all of your income, then another is claiming ownership of you, and that is slavery.

    Buuuuuuuut… this blog is about empowering people.

    And it is not an empowering thing to pursue ROBS illegally. I mean, if someone is to be a tax cheat, why not just stop paying taxes at the source rather than go to a bunch of trouble to jump through tax loopholes only to ultimately risk extremely negative consequences for breaking those same tax laws.

    The guy who actually protests taxation at the source and rejects it universally on principle and Constitutional legitimacy? Honorable.

    The guy who asks “how high?” when the tax man says jump, surrenders a third of his property perpetually throughout his life, and then rationalizes himself into a set of illegal transactions that give that same tax man the opportunity to attack him (maybe even lock him up)? A bad decision maker.

    – Jeff

    P.S. If you think blaming on an “independent trustee” the fact that you got hired by a company funded by your retirement money can convince anyone that it all happened with your hands tied behind your back… you have a healthy imagination.

    Likewise, “but I’m providing employment!” isn’t going to strike much of a chord with the establishment that exercises its force at its will.

    The solution is raising money from others. A very easy thing to do if the business is worthwhile. Sign up here to learn more:

    http://www.nabers.com/services/small-business-financing/

  21. Jeff,

    You clearly have some interesting viewpoints which I respect.

    It seems we’ve bound ourselves to a culture and government that has defined legitimate businesses as one that makes money using other people’s money.

    For US based corporations to remain globally competitive the 401K retirement as an alternative to “costly” pensions (costly to whom?) was driven by corporate interests which depend on well trained, guarded labor pools.

    The 401K quickly shifted corporate earned money to public earned money. Since this new and significant source of other peoples money (US taxpayers) was established, a new and “legitimate” industry was enabled.

    The investing public (no longer the sophisicated corporations with all the leverage) put its “trust” in the legitimate organizations positioned to invest for their long-term benefit.

    What we’ve seen since the inception of the 401K is a shark fest. Now the “public” would like to say – ‘you know what … I think I want to invest for my own benefit, retirement, and perhaps even help others’.

    And guess what’s driven this shift in thinking … ROBS promoters? No, they are simply and creatively (as necessity is the mother of invention) responding to a growing shift in market need – unfortunately, doing something with other peoples money leads to potential abuse.

    My imagination is healthy enough to presume that the public at large indeed wants to help itself and others to help themselves. There’s no blame to be given to trustee that acts in the best interest of the poor sole that’s working toward a safe and healthy retirement.

    The public has indeed had their hands tied behind their back … and they are now using trying, or at least considering, the use of head and feet to create a safe retirement. Which public (government) or private entity is now going to tie these?

    I must say the risks of enabling the labor pool (taxpayers) to invest in one’s own business is not without potential social penalty – but let’s consider the potential social upsides of making or losing money with your own money.

    I’ll sign-off with due humility and respect for differing opinions.

    An excellent forum Jeff …. sincerely.

  22. ROBS, I cant wait to exploit this!

    Here’s what you can do with ROBS and then add in the ROTH for fun.

    contribute 54,500 tax deductible each year to my plan. Use the money to buy my own stock, each year. Now I have successfully evaded taxation on that money and use it for payroll, trucks, company boondoggles, whatever. doesn’t really matter what I use it for at this point it is outside of the Plan and it is 54,500 worth of Cash not 30k after taxes.

    Assume the I make 300k and save 25k a year in taxes by doing ROBS. That’s 250k in extra operating capital gratis of the US government.

    Jeff,
    Isn’t all of this completely reasonable based on the assumption that ROBS is allowable? I mean if ROBS is legit then I could do this every year with my contributions correct?

    No chance in hell this will ever make it. This is the worst example of a non sense approach to tax avoidance I have heard.

    now for the fun part

    10 years later devalue the stock and convert into a Roth IRA with very little tax consequence, run the firm another 2 or 3 years and sell it for a much higher value than at the time of the Roth conversion.

    I just avoided an additional chunk of taxes by transferring the stock to a Roth and selling without any tax obligations at liquidation.

    Honestly, a firm with an aggressive enough owner who would do a ROBS , and obviously with poor legal counsel would likely concoct any kind of value for a small service company prior to converting to a Roth.

    Jeff,

    Isn’t all of this completely reasonable based on the assumption that ROBS is allowable?

  23. @Bemused – If you want to help the U.S. economy and employment… direct that healthy imagination toward starting a business with less than $50,000, which can be legally taken as a participant loan from a 401k plan. Most 401k plans don’t actually allow it, but the SOLO 401K offered by my company allows for it. There are hundreds of viable business models that can be launched for less than $5,000, let alone $50,000 today 😀

    @BC – Sounds like you should start a ROBS facilitation company… You’ve got it all figured out!

    – Jeff

    P.S. To readers who ‘scan’ please understand my comment to BC was tongue-in-cheek 🙂

  24. Dear Jeff,

    Very interesting article. Just a question, where are the sections for penalties. You have said you will owe 115% of the principle, could you please reference me to the Section of the Code or ERISA for this???

  25. My comment from post 1 & 2

    ================================

    Seems to me that the ‘big no no’ that you are trying to warn people of was sparked by the Oct 1, 2008 IRS memo. That memo is only 16 pages long and was issued with regard to ROBS.

    Here is a quote that I found (not including link because I don’t want the blog to flag me for spamming) WRT that memo, from its author no less

    Michael D. Julianelle, author of the aforementioned IRS memo and director of employee plans for the IRS, maintains that ROBS plan can be legal — if you’re careful.

    ======================================

    New comments for post 3

    And now, a year after finding out that the DOL and not the IRS has the final say as to whether or not ROBS is a legit way to utilize retirement funds to fund a business, Jeff says he doesn’t want to “effect other people” by requesting a ruling from DOL that would theoretically devastate the ROBS promoters and all their clients.

    Does that seem convenient to you? This one man (Jeff Nabers) who holds the knowledge and keys to the destruction of an entire industry and all the ‘duped’ clients of promoters… all he has to do is ask the DOL for a ruling.

    BUT, it isn’t self-interest at all is it? It is only coincidence that this ‘information’ and the scenarios makes it very easy to create F.U.D. (fear, uncertainty, and doubt) which can be leveraged to steer clients to competing financing vehicles that his company happens to offer.

    I’m not saying that Jeff doesn’t know a LOT about the topic, certainly a LOT more than me. I don’t have on tenth the knowledge on the subject that Jeff does. But I am a marketer, on the Internet. I sell stuff every day to people who I never meet. I know the steps that you take to do it, the psychology of the sale. I can see clearly the keyword marketing on Jeff’s site. I can see clearly the messaging that is used to put the prospect into a buying mood. I have experienced the ‘call center’ for myself. Not saying that any of the tactics applied here are wrong… except we need to be dealing with TRUTH.

    Who really believes that the DOL is the sole arbiter of whether or not ROBS is legal or not? Sorry, but I don’t. That is just plain silly. Who believes that if they were, that Jeff’s initial meeting with his ‘friend’ wouldn’t have caused a HUGE uproar that would have closed that loop-hole within days of his leaving her office? I do.

    I’m thinking to myself, that if the DOL really could just shut everything down and generate $2+ MM of penalties for people that invest $500k over 6 years, then it would do so. I also think that there is a Federal Whistle Blowers’ reward program that could make me rich beyond measure if I were to just call up the DOL and explain to them how they could help the IRS stop all this illegal activity – just go after anyone whose ROBS promoter submitted to the IRS for a compliance letter (or whatever the technical term is) regarding the ROBS activity.

    How ludicrous is that? VERY. Just plain and simple does make sense.

    If there is a loop-hole that is being exploited, it will likely take legislation (as that is what created the retirement vehicles in the first place) rather than ‘just one person asking the DOL for a ruling’ as Jeff suggests.

    Not a self-interested person here, as I’m not a promoter of any type of retirement plan, just a guy who is doing research and finding that this is a very vigorous area with lots of marketers. Jeff seems to be one who has carved a niche that depends on marketing only IRA LLCs and Solo 401 K’s and NOT ROBS. HIs ‘spin’ is helpful to steering visitors to his firm by eliminating the competition as crooks peddling illegal schemes. Left a bad taste in my mouth when I first heard of ROBS being ‘illegal’… bad taste is still there.

  26. Great article, I was about to call one of these ROBbers first thin Monday morning, glad I didn’t.
    Semi on/off topic:
    My father wants to buy into a franchise, say Subway for argument sake. He has no intention of running it, because he wants me to manage the unit. I have good credit but lack assets to get approved for an SBA loan (I’m assuming) is there anyway he can tap into his retirements,legally, to avoid taxes? Do you suggest any other way to do this? Technically he wants to put the business in my name so that he has no liability, on second thought, does that matter if we form an LLC and are afforded limited liability? Any help is greatly appreciated. Great advice on your blog!

  27. What exactly is the ‘outside-the-plan benefit’ that is being provided by the ESOP to the Disqualified Person (DP)?

    Certainly if an ERSOP / ROBS transaction results in outside-the-plan benefits not intended by Congress then that results in a prohibited transaction. However, providing corporate financing is a STATED desire of Congress in enacting the ESOP legislation that forms the basis of an ERSOP / ROBS transaction.

    Your examples (when shown in the negative) highlight purported possible ‘outside-the-plan benefits’:

    1) “His purchase did not keep the company from going under and thus increase his job security.” “His purchase did not have a significant impact on the company’s ability to grow.” “His purchase did not launch the company. ” i.e. An ESOP purchase of a corporation [using plan contributions from a DP], that provides financing that launches a company, helps a company grow, or keeps a company from going under increases job security of the DP and would be a prohibited transaction.

    2) “His purchase did not enable him to get a raise or bonus.” i.e. An ESOP purchase of a corporation [using plan contributions from a DP], that enables the DP to get a raise or bonus would be a prohibited transaction.

    The fact that a corporation owned by the ESOP is being financed by the transaction and that this allows for continued employment of ESOP participants that is a DP is not necessarily an ‘outside-the-plan benefit’ for a DP. Congress specifically created ESOPs (which ERSOP/ROBs are), as a tool for corporate financing, i.e. one of the benefits of an ESO Plan is to provide financing to the corporation. Obviously, access to corporate financing provided by the ESOP is a benefit to the shareholders of the corporation and a corporation owned by an ESOP, by its very nature, has as the shareholders the employees of the corporation, which may include a DP. A typical ESOP transaction consumated over the last 40 years has a closely held private company selling a stake to employees (and often in fact borrows on behalf of the employees). Often, even after the sale, the original owner still often retains more than 10% of the equity (making them DP’s) and even in cases where they do not, often remain officers/executives of the ESOP-owned company (making them DP’s), and in both cases they receive salaried compensation. If what you were saying were accurate, specifically that an ESOP purchase of corporate stock that keeps a company from going under, that helps a company grow, or that launches a company is de facto a prohibited transaction when there is a DP that has continued employment or that gets a raise or bonus in the ordinary course of business then most ESOPs for privately held companies would be engaging in prohibited transactions!

    It seems to me that what DOL is referring to is that it would be a prohibited transaction where a DP-funded ESOP acquired the corporation where it is evident the DP is making the investment to buy the business not for the exclusive benefit of the qualified retirement plan (ie to grow the retirement plan, in this case the ESOP), but rather to satisfy their own need for a salary/raise/bonus. This will be clear as time progresses based on both the fair market value of the corporation within the ESOP versus salary/bonus payments to the DP as well as industry norms for the corporation’s line of business. Salary/raise/bonuses are inevitable in time with a successful ESOP acquisition, including for DP’s, the prohibition however is on outside-the-plan benefits, not on benefits that occur as a result of successful financing that enable normal salary/raise/bonus in the ordinary course of corporate business.

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