Financial planning for business owners differs from regular W-2 employees and should be handled differently. These are 3 steps business owners should take:
Step 1: Plan for Volatile Earnings
This is especially true if you operate a business that ebbs and flows with economic cycles, such as construction and real estate. However, company specific changes can happen, such as employee turnover, legal issues or major spending for growth and improvements. The way to plan around this is to keep your personal spending in line with either the average of your last several years or even the worst of your last several years. You need to resist the urge to splurge on a larger house, second house, or very high-end luxury car for now, just to be prudent. This way, if there is a downturn, you can easily deal with reduced income from your business.
Step 2: Have Cash Available
Relating to step one, you need to be prepared when a business downturn happens or if you need a lot more cash for growth and improvements. Remember, when you’re a business owner, there’s no unemployment for you, generally. What is a good rule of thumb for the amount of savings? Think of a worst case scenario. Most likely your income will just be reduced from a downturn, but you will still have some income coming in. An approximate amount would be the expected number of months times the amount of income shortfall.
Step 3: Retirement Funding
Unless your business is a start-up, you need to set up a retirement plan for your business as soon as possible. You don’t have to put a lot of money into it at first, but as you get used to putting away money into your retirement plan, it makes it easier to increase the amount. Plus, some retirement plans have an option of taking loans from the plan, which acts as an emergency fund when times get rough.
Conclusion
Murphy’s law states, “Anything that can go wrong will go wrong.” Income can go down and expenses can go up at the same time. Be prepared.
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