Former ROBS setup clients often contact me to ask whether there are ROBS considerations when selling the sponsoring business. Yes! Here are the most important considerations. The process is not as simple as reversing a ROBS asset purchase or equity purchase of an existing business. The trustee of the plan, typically the client, owes duties to the Plan as a shareholder and any employees with funds in the plan that might not exist in a purchase.
Taxation of the Sale
The primary reason clients call is to find out how to buy the stock back from the plan prior to the sale to avoid the double taxation inherent in a corporate sale. While I refer them to their CPA for a detailed discussion, or links like this one for general tips, I do share the often welcome news that this is not an issue for their ROBS stock. Whether you sell as an asset purchase or stock purchase, when the Plan receives payment for its stock, it does not owe capital gains tax on the sale (and cannot take a deduction for losses). Most of my clients own 95% or more of the corporate stock through the Plan so the double taxation issue of most C corporation sales does not apply.
If a client still wants to purchase the Plan stock prior to selling their business, the rules require a fair market valuation (FMV) of the stock price. This valuation can be used for the sale process as well if within 90 days or so and contains enough detail. The downside of this idea for many ROBS clients is that they do not have enough money without the sale to purchase the stock. A few clients prefer to pay the plan less than FMV. I get that. However, the rules do not allow it.
ROBS Considerations #1 – Proper Flow of the Funds to the Plan
The flow of the sale proceeds to the plan differ depending on whether the sale is an asset or equity sale. If an asset sale, the corporation is selling its assets to the buyer. The corporation then pays its bills, and buys the stock back from it shareholders. The corporation writes a check to the plan for the percentage of its ownership. That check is deposited into an account in the name of the plan. In an equity sale, the buyers pay each shareholder for their shares. The Plan proceeds need to be deposited into an account in the name of the Plan.
Some of my clients do not have any accounts for their Plan. The promoters who created their ROBS concept did not include any accounts for the Plan. The ROBS arrangements I create include an investment account for the Plan. If your Plan does not have an account, you will need to create one. The Plan needs to receive the funds from the sale of its stock. Some of my clients realize a 3,000% or more tax differed gain in this sale. I don’t know how one might create this type of gain in the stock market.
ROBS Considerations #2 – Proper Flow of the Funds from the Plan
This step varies. Some of my clients are selling their business but not closing their corporation or the plan. In this case, we might not need Consideration 1. Others want to close their plan but not the corporation. Consideration 1 required. Most close both their corporation and plan. It is not an option to close the corporation (the Plan sponsor) and not close the Plan. Every 401K plan needs a plan sponsor.
If the Plan is closing, certain rights extend to every employee of the corporation with funds inside the Plan. Those rights include deciding where to transfer their qualified funds or whether to take some or all of their funds as a taxable distribution. Your Plan needs to transfer your qualified funds to another qualified account, such as an IRA or a different 401K with a new employer. Your 401K Plan needs to file a final 5500 and appropriate 1099s.
If you want someone to quarterback these steps for you, contact me.