Quickest Way To Move Money In My 401K Into Cash For Purchasing Business Inventory sans Penalties

Well, per this thread:

I’ve been forced to consider surviving by operating a small business.
I have studied under a business owner who makes an adequate income from the trade in question. He lives in an area well-removed from where I live, and research has shown that his business model should work in my locale.

Here’s the whammy:
The business can be immediately profitable, but without adequate start-up capital I’ll have to purchase goods and materials, sell them, reinvest and keep ramping up 'til I can earn a viable income from this. That ramping will occur slowly, and I’m about 6 weeks from the end of my severance pay.
Long story short, I could ramp up to my previous salary in 2-4 weeks if I had a few thousand dollars to throw at goods and materials.
I’m guessing $2500 would do it, but I’m certain that $5000+ would do it.

Let’s assume bank lending is a door closed to me. Let’s also assume that I cannot or do not wish to take a partner.

I’ve got right around $19K in the 401K at my old employer.
I do not wish to take the tax penalty that would be associated with taking a lump-sum distribution.

One associate suggested I look at something along the lines of a self-directed IRA or a “Self-Employed 401K” to gain the ability to loan these funds to my business.
I read up on the web, and I’ve concluded that the self-directed IRA option is not legal in this application.

On paper, I should be able to take out a loan against those funds to the tune of $9500 or so.
Anyone know the fastest way to get access to my funds without doing the stupid thing and taking the lump-sum distribution?
Thanks in advance.

When you say “tax penalty” are you referring to the taxes, the penalty, or both? I don’t think there is any way to avoid the taxes (you can’t take out a loan against it), but you may be able to avoid the penalty through a hardship withdrawal (although I don’t think you qualify).

The only solution I can see, while not illegal, might be described as extralegal. You might be able to convince someone (an individual, not a bank) to lend you the money with the understanding that if you cannot pay it back, you will cash in your 401(k). This requires someone who will take your word, since that would not be a legally enforceable contract. If all goes well you have avoided both the taxes and the penalty. If all does not go well…

I’m talking about both.
I’m pretty sure there are at least two ways to do what I’m trying to do, and probably more.
The goal of my post is to find out the fastest of those ways.

Here’s an article about one of the ways to do this:
http://articles.moneycentral.msn.com/Taxes/TaxShelters/use-your-401k-to-start-a-business.aspx

IIRC, if you withdraw the funds from your former employer’s 401(k) for the purposes of rolling them over into an IRA or Individual 401(k), you have something like 60 days from the time you receive the funds to put them in the new account. Would that float be enough to do the trick?

Quite possibly.
My concern with that, aside from the obvious risks:
I believe that if the check doesn’t go straight from the 401K’s current administrator to the next administrator, though, that they hold back the tax and penalties. If that happens I’ll have to not only make money on the $10K but I’ll also need to find an additional $9K to fill the IRA up with properly.

[moderating]
This whole question seems to be dancing right at the edge of the law. This leads me to make the following two observations:

1: Any advice on how to commit a crime or avoid being caught/prosecuted for committing a crime will cause an immediate closure of this thread. I’m leaving it open in the hopes that someone can jump in with legal solutions.

2: You need to see a tax attorney – or at least a tax accountant. ANY advice you receive in this thread should serve ONLY as a starting point for research or as a question for the tax lawyer.
[/moderating]

For emphasis, I’m looking for the quickest legal way to do this.
I’m not asking what’s legal or not, I’m asking what’s fast. There’s one solution that involves setting up a C Corp and some other steps, and that puts me out to a two-week delay.
On edit: You can rest assured that I’ll speak with a licensed professional once I know what vehicle I’m using for this and prior to moving any funds. I’m trying to know what I’m talking about before the conversation.

That’s fine, Mr. Slant. Good luck with the business! I hope you get some good suggestions.

Incidentally, is there anyone willing to loan you money using the inventory as collateral? I know the interest rate would be high, but it might solve your short-term problem.

I’ll certainly look at that angle. Thanks for reminding me.

Taking a distribution direct from your 401k will result in a mandatory 20% federal tax withholding. Rolling it over into your IRA and then taking funds out will not have mandatory (optional yes) tax withholding.

Any chance you have a Roth IRA or other investment vehicles like 529 or etc? Always good to evaluate everything you have available, and then make a plan from there.

Right.
Thank you Bobalude.
Thanks to everyone in this thread.

I went ahead and took my 401K at Vanguard and dumped it into an IRA at Vanguard.
Once it’s in an IRA, I can yank out $5K, buy and turn inventory in 45 days and then dump the $5K back in without a penalty.
It’s not EXACTLY what I was planning to do, but it goes give me the ability to get the ball rolling and avoid the penalties.
I’ll need to micro-manage my turn rate, but managing that is part of operating a business anyway.

Well folks, mixed happy ending here.

I wound up pulling all of the money out and dumping all of it into goods and materials.
I couldn’t handle all of the volume I’m doing, so I had to hire an employee to help.
Even after paying his wages, I’m still making noticeably more than I did at my old job, benefits and taxes included.
I was not, however, able to repay the loan against the IRA. Inventory and raw materials turn is high for me, but not high enough.
I’m left with paying the penalties on a $19K early distribution, but I’m no longer going to lose my house and car, and in all likelihood by the beginning of next year I’ll have enough surplus post-tax profit to handle that with no sweat.

Thanks to everyone who answered!

Mr. Slant, I hope you don’t mind me piggy-backing on your question–it seems that it’s worked out well for you and you may have some good guidance to share.

My father-in-law is considering making a substantial withdrawal from his 401K. Before he consults a professional or bothers anyone else, he’s trying to figure out approximate penalties and tax implications. In other words, it’s all in the conversational stage right now.

I’m just the dutiful son-in-law, and I have no real starting knowledge of IRAs or other retirement accounts. From my cursory look, it seems that since he (and his wife) are both over 60, penalties may not apply (though taxes will). Clearly it gets very complicated very fast, but where do I start learning about these sorts of things? The only real advice he’s after is whether or not it’s worth it for him to look further into it and hire a professional (I guess I’m kind of acting like information triage).

Just to be clear, I’m not asking for advice or anything regarding his situation, I’m asking for good, starter, generalized articles–or an idea of the key terms I should be familiar with and searching on.

If you’re completely uninformed on the tax end of a 401K, start here: