The IRS Scrutinizes 401(k) Cash for Small Business.

The IRS Scrutinizes 401(k) Cash for Small Business.

by | Jun 7, 2010 | Archives

Tapping retirement money is a great way to fund a startup—if it doesn’t violate tax rules.

As the credit crisis has made it tougher for small businesses to get funding, some would-be entrepreneurs have exploited a loophole that lets them finance a startup with 401(k) retirement funds without facing any taxes or penalties. Now the technique is catching the attention of the IRS, which plans to step up audits of such transactions. “We are seeing problems,” says Monika Templeman, acting director of employee plans at the IRS. “It is open to abuse.”

The transactions typically require an entrepreneur to create a new corporation, establish a 401(k) plan for it, and move existing 401(k) funds into the plan. Money from the new 401(k) is used to buy shares in the new company, and that provides the business with capital while retaining the tax advantages of the 401(k). Without such a rollover, funds withdrawn from a 401(k) are subject to income taxes. A 10 percent penalty applies if the funds are withdrawn by a person under the age of 59 1/2. Templeman says the IRS has seen questionable valuations for the new stock, and in a few cases the money was used to buy recreational vehicles and other personal assets.

While financial advisers began promoting such rollovers in the early 1990s, the credit crisis has made them more attractive. This year at least 4,000 people are likely to use the strategy, an increase over previous years, according to companies that help craft the plans. The typical transaction involves between $100,000 and $200,000 in retirement funds. Advisers charge about $5,000 for the paperwork, plus annual fees of at least $800 to run the new 401(k) plan. “When you start comparing it with a 15 to 20 percent interest rate on a loan…people are saying ‘I’d rather be my own investor,’ ” says Jeremy Ames, chief executive of Guidant Financial Group, a Seattle company that helps business owners roll over 401(k)s.

Ames and other advocates of the rollovers say their transactions are legal. That doesn’t mean the IRS will see it that way. Stephen Dobrow, president of benefits consultancy Primark Benefits, says even plans the IRS has examined may face renewed scrutiny. The IRS, he says, “can still blow up those plans even though they’ve passed on them once.”

The bottom line: Using 401(k) funds to finance startups got more popular during the recession, but some of the transactions may violate tax law.

Amy Feldman – associate editor with Bloomberg Businessweek in New York.

Open House Saturday June 5 to Help Taxpayers Solve Problems and Respond to Notices

Open House Saturday June 5 to Help Taxpayers Solve Problems and Respond to Notices

by | Jun 3, 2010 | Archives

The Internal Revenue Service will once again host a special nationwide open house on Saturday, June 5 to help taxpayers solve tax problems and respond to notices from the IRS.

Approximately 200 IRS offices, at least one in every state, will be open June 5 from 9 a.m. to 2 p.m. local time. IRS staff will be available on site or by telephone to help taxpayers work through their problems –– especially recently received tax notices –– and walk out with solutions.

“We’ve helped thousands of taxpayers resolve their problems the same day at these open houses,” IRS Commissioner Doug Shulman said. “If you have a question regarding a notice, a problem with your taxes or difficulty resolving a tough tax issue, we encourage you to come in and work with us.”

IRS locations will be equipped to handle issues involving notices and payments, return preparation, audits and a variety of other issues. At a previous IRS open house on May 15, close to 7,000 taxpayers sought and received assistance. About 97 percent of the taxpayers who came in for help had their issues resolved the same day.

At the June 5 open house, someone who has received a notice seeking additional information can speak with an IRS employee to get a clear explanation of what is necessary to satisfy the request. A taxpayer who cannot pay a tax balance due can discuss with an IRS professional whether an installment agreement is appropriate and, if so, fill out the paperwork then and there. Assistance with offers-in-compromise — an agreement between a taxpayer and the IRS that settles the taxpayer’s debt for less than the full amount owed — will also be available. Likewise, a taxpayer struggling to complete a certain IRS form or schedule can work directly with IRS staff to get the job done.

The open house on June 5 is the second of three events scheduled after tax season this year. The first was held on May 15. The next event, previously scheduled for Saturday June 26, will be held later this fall. Details regarding that event will be available later.