Resist tapping retirement funds for small-business financing
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Dear Your Business Credit,
I am in my 50s and, after getting downsized, am thinking about starting a small business. Would it make sense to tap my retirement savings or would it be better to try other forms of financing? I have a few months of severance pay coming. -- Don
Congratulations on figuring out your next move. Becoming a business owner is a great way to take your career into your own hands. And now is a good time to start one. A 2013 midyear survey by PEX Card found that 87 percent of small- and midsized-business owners say their businesses are doing as well or better than expected at this point in the year.
While many midlife entrepreneurs have the same spark and enthusiasm as counterparts in their 20s, it's smart to recognize that, as you near retirement age, you have different financial considerations.
For advice on tapping your retirement savings to buy a business, I turned to Andrew Sherman, a partner at Jones Day in Washington, D.C., and author of the book "Raising Capital: Get the Money You Need to Grow Your Business."
"Do not raid your retirement accounts," Sherman urges. "It's a bad idea. Too many businesses fail." If your business doesn't succeed, you don't want to find that you have wiped out your retirement savings, too, he says.
That said, taking a loan against your retirement savings can be a good option, he says. Typically, you will have to repay yourself with interest, which means it is more likely that you will put that money back.
Sherman also recommends looking for other sources of capital. Depending on the type of business you are starting, your options could include loans from family and friends, crowdfunding or an equity investment from a private investor known as an angel, to name a few.
Bear in mind that there are many hidden costs to running a business, so it's important to figure out if you will be able to generate enough income to cover them. One of the biggest costs is paying for your own health care, unless you can obtain it through a spouse's benefits package.
Under health care reform, most Americans will have to show they have health insurance starting Jan. 1, 2014, or pay a penalty to the Internal Revenue Service. For people over 50, health insurance can be very costly -- and, if you buy it as an individual, you will not be able to get the group rates that a corporate employer does.
The Kaiser Family Foundation compiled average costs of monthly insurance premiums for health plans bought on the open market. The figures are from 2010, so they're likely higher now. They averaged $215 per person, but in some states were almost double that. In Massachusetts, the highest cost state, the average was $437. That's assuming that you can even get coverage.
Once government health care exchanges are set up in October, access won't be such an issue. But it's still unlikely to be cheap. The Congressional Budget Office anticipates that the cheapest plans acceptable under the law, known as the "bronze," will cost $4,500 to $5,000 for an individual annually in 2016 and $12,000 to $12,500 for a family. The upside is that tax credits and other assistance are available to low- and middle-income individuals and small businesses.
I'm not saying any of this to discourage you. I run a small business myself and love being self-employed. It's possible to offset big expenses such as health care by keeping overhead down, whether it's by keeping a close eye on fuel costs, shopping around for the best deal on a credit card or working from home at first. From what I've seen, the more prepared you are to tackle the financial realities of running a business, the greater your chances of long-term success.
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