Can I take money from my 401k account for starting a new business?

Q. My husband has been working with a corporate firm for almost 15 years. He now wants to quit his job and start his own personal business on a small-scale. This business will naturally require some initial and ongoing investment. He has a 401k plan, but can he withdraw money from it in order to start his new business? Jessica, Minneapolis

A. Hi Jessica, the answer to your question is- Yes. Once your husband quits his current job, he is free to utilize the funds in his 401k plan for all kinds of purposes, including starting a new business. However, there are always some risks involved in using the retirement funds (example, venture capital). The most significant risk is that in the event the business venture fails to take off, your husband may lose his business assets as well as his retirement savings.

There are basically three ways to use the 401k money to start a business:

  • Distribution of money
  • Taking a mortgage against the sum
  • Rolling over the 401k plan into a new business owners’ retirement savings account

The third option for starting a new business with the existing 401k plan is ROBS or Rollovers as Business Startups. With this plan, your husband can make use of the funds in the 401k account and start his own business without the need to pay taxes on the amount withdrawn. He would also avoid facing an initial withdrawal penalty.

The downside, however, is that this process could be quite complicated. If your husband takes this option, he would first need to incorporate his small business while opening a new 401(k) plan for it. This is followed by rolling over the funds in the current 401(k) plan into this newly opened account. The good news is that both the accounts are tax exempt. Therefore, your husband will avoid any tax hit.

The owner of the newly incorporated company, that is, your husband, has the freedom to decide where and how he spends the 401(k) funds. They could be used for meeting operational costs of the new business.

In the event that things don’t work out too well with the 401(k) financing, your husband would need to make payment for the losses; however, 401(k) offers before-tax money and this brings down the effectual cost. Also, there aren’t any credit implications.