What is a ROBS Corporation Concept Worth? | Frank Selden Law

What is a ROBS Corporation Concept Worth?

What is a ROBS Corporation idea worth these days? You just know your idea is worth a million dollars. You bring $100,000 from your plan into the corporation and youcontribute your $1M idea. May your corporation issue you $1M worth of stock for your idea? No.

ROBS Corporation Idea Worth $1M?

Some of our client’s idea are worth a lot of money. Potentially. How do we know whether an idea is worth money? Sure, you have friends at the bar who say your idea is worth something. Can you take that idea to a major corporation and have them give you cash or stock for you undeveloped, unproven idea? Not likely. Your ROBS corporation is not going to issue stock to you for your idea either. I have clients who insist on issuing stock to themselves for their amazing idea.

Let's agree that your idea is worth $1M. To whom? What does that even mean? People usually mean that the right company, with the right connections, structure, logistics could turn this idea into a $1M profit. Is your new corporation such a company? No. It has one employee, you. No office, website, clients, vendors. How exactly is your corporation even going to turn this into $1M in revenue (different than profit)? if you believe so strongly that your idea by itself is worth $1M, then find a company to pay you and don't bother with starting a corporation.

If you cannot locate a company willing to pay you $1M for your idea, then you need to build your idea into a business. That takes effort. Effort for which you will be paid as the business grows. You cripple your opportunity for success if you strip the capital investment from the company into your own pocket and leave it with only an idea.

If that does not convince you, consider these two regulatory reasons to avoid issuing stock forr sweat or intellectual equity.

Two Reasons NOT To Issue Yourself Sweat Equity Stock

The first is common to all businesses: the issuance of stock for sweat equity (compared to capital contributions) is a taxable event. One shareholder contributes $100,000. The other fixes up a dilapidated office, runs some errands, buys supplies, meets people, secures the first contract. The 2nd person wants 10% of the company for all for that effort. The company issues $10,000 worth of stock. Woo-Hoo! Hold onto the stock until the company is sold and pay capital gains tax on that stock? Not so fast. The stock is taxed as ordinary income for the year issued. Ouch. See this article for more information.

The other reasons is unique to ROBS setups: “adequate consideration” rules. If your stock issuance loses an adequate consideration test, the IRS can consider that a back door distribution, a shift of plan value into your pocket. This is rare, but if they do, your plan can be disqualified, the entire plan investment taxable to you as of the investment year, 10% premature distribution penalty if you are under 59 at the time, and false return penalties since you did not claim a distribution on your tax return. Double ouch.

What Happens To That $1M Value?

Let’s say your plan owns 95% of the corporation, because it’s $100k is 95% of the capital. 5 years go by and you sell your corporation for $1M. The plan receives $950k. No capital gains tax. $950k growing tax deferred for your retirement. Perhaps at that point you transfer the funds to an IRA. Your plan’s investment turned a 850% return in 5 years. Where can you get that in the market?

IRC Section 1244 Test

Another way of looking at this concept is §1244 stock qualifications. The consideration paid by the shareholder must consist of money or other property, not services. Stock and other securities are not “other property” for this purpose. However, cancellation of indebtedness may be sufficiently valid consideration. See this article for more info on Section 1244 issues. Ideas and sweat equity do not count either.

What is a bright idea person supposed to do?

Create your ROBS corporation, bring your idea, your hard work, and let your Plan make most of the money.

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