How To Use Your IRA To Invest in Your Business

As you know, it is against all the rules to use your IRA to invest in anything which benefits you or a related party.  This is one quick way to get your entire IRA disqualified, quite likely owing a big tax bill and penalties as well.

However – and there’s always a however in life, right? – there is one possible way that you could use funds from an IRA to invest in your own business.  It’s a bit tricky, but it is a perfectly legal, in fact encouraged, method.

Howzat?  The IRS encourages the use of IRA funds for your own business?  Not exactly.  There’s more to it than that.  The IRS encourages by preferential law the use of Employee Stock Ownership Plan (ESOP) funds to invest in your business.  An ESOP is a type of qualified retirement plan that is designed specifically to invest in the stock of the employer.

So, if you have a small business and it’s incorporated, you can adopt an ESOP and roll your IRA into the plan, then use the ESOP funds to invest in your business.  You have to make certain that the ESOP follows all the usual rules – the plan has to be primarily designed to provide retirement benefits, it must be permanent in nature, you must make substantial and recurring contributions, and the plan must not discriminate against employees.

This is definitely not for the faint of heart. Although all the statutes allow the method as legal, the IRS is well aware of the method and they don’t seem to like it much.  They’re referring to this activity as “rollovers as business startups”, or ROBS, and they are siccing their auditors on abusers of the option.  I suspect that the main reason that folks run afoul of the IRS on this is if they don’t stick with the requirements for a valid plan and abuse the privilege.

As with many of these sorts of schemes, I don’t recommend it for regular use.  It could work for special circumstances though – but you should definitely be very careful if you decide to give it a shot.  The downside could be significant and painful.

About the author

Jim Blankenship, CFP®, EA

Jim Blankenship is the founder and principal of Blankenship Financial Planning, Ltd., a financial planning firm providing hourly, as-needed financial planning and advice. A financial services professional for over 25 years, Jim is a CFP professional and has earned the Enrolled Agent designation, a designation that qualifies him as enrolled to practice before the IRS. Jim is also a NAPFA-registered financial advisor, which designates him as a Fee-Only Financial Advisor.

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2 Comments

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  • I agree with you on this. I used my IRA to invest in the business I bought in October of 2008. For a number of different reasons the business is now insolvent. I cannot even afford to do my normal tax returns let alone the extra forms for the 401k plan that I am supposed to do. This service was sold to me by Guidiant Financial and was completely inappropriate for a small pizza shop. I suspect I will have to appear before a tax court as there is no hope that I ever be able to repay this. The IRS should not allow these conversions for any reason. If your venture works out then they might be ok. If your venture fails as mine has then you are in trouble.

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