Can You Use Your 401(k) to Buy a Franchise?

If you're thinking about buying a franchise, one of the key considerations you have to make is how you're going to finance it. For some potential franchisees, the answer to that question is to use cash they earn from a liquidity event like selling a piece of property. For others, the option they choose is to get a loan.

Since each financing option comes with its own set of pros and cons, the most important thing is to explore all of the options that are available. And during the course of that research, one of the options you'll discover is using your 401(k). Because it is possible to use this source of financing to purchase a franchise, you may be wondering if it's a smart option.

To help answer that question, let's take a look at some of the benefits of utilizing this financing option:

Don't Have to Take on Debt

While a loan secured at a favorable rate can be appealing, it still requires you to pay back what you borrow. When you use your 401(k) to finance your franchise purchase, you won't have to worry about owing money to a lender.

Avoid Risking Personal Assets

With many loans, people put up assets like their homes as collateral. Even with a solid plan, this can still create a risky situation. By using your 401(k) instead, you'll be able to eliminate that source of risk.

Increase What Can Be Reinvested

Whether it's a franchise or a business someone starts on their own, any business that's started with the help of a loan is going to have to make repayments on a monthly or quarterly basis. Since those payments can take up a significant amount of the money that a business is generating, it can reduce how much an owner is able to put back in the business. So by utilizing a source of financing that doesn't require any repayments, more of the money generated by the business can be put back into it.

How Can You Use Your 401(k) to Start a Franchise?

Now that we've covered the reasons that a 401(k) can work well as a source of funding for a franchise, you may be wondering what steps you need to follow in order to actually utilize it. Thanks to legislation that was passed in 1974, this process is actually easier than most people expect. The first step is for a new C corporation to be formed. Next, the newly formed company can sponsor the 401(k) plan. After that, the new 401(k) plan will be able to purchase stock in the corporation, which can then purchase a franchise. Finally, any existing retirement funds can be rolled into the new 401(k).

Since purchasing a franchise, as well as using any percentage of your 401(k), are significant decisions, be sure to speak with a trusted financial advisor before finalizing anything.

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