Buying a Business with your 401K – Is it a good idea?
As business financing becomes harder and harder to come by, getting a business loan from established lenders may be nearly impossible for budding entrepreneurs. While some may consider their 401K or retirement assets sacred, others look at them as valuable leverage to help them finance a business, real estate, or a college education. It all depends on how you approach it, but buying a business with your 401K doesn’t need to be scary. Most people don’t actually take the money out and endure the hefty penalties; they actually borrow against the value of the asset and pay interest to their investment bank. If borrowing from yourself, with interest, doesn’t sound like it would work then consider a more traditional source of funding.
Buying a business with your 401K can also be done in the form of a “distribution”, but this is always advised. The big downside to a distribution is the penalties and higher taxes that must be paid on the money, but it is also not a loan. Most entrepreneurs prefer to minimize the risk of borrowing whenever possible. Distributions work better than a 401K loan that must be repaid when you leave the company.
One way to know for sure whether buying a business with a 401K is right for you is this – thoroughly analyze your “risk tolerance” vis-à-vis your family’s needs for the future. Even the most successful transactions that are considered a “slam dunk” business can fall apart if the economy fails. To protect their families in the event of a premature death, many business owners buy a term life policy that will carry them through the riskiest period of start up.
If you don’t think your family can tolerate the risk associated with buying a business with a 401K, then don’t do it; look at some other options. In this business climate, many sellers are looking for ways to get their business listings noticed. One common characteristic is that they’re all offering seller-assisted financing. Seller assisted transactions are usually much more flexible in terms of credit checks, but they may require a consigner and some thorough background checks before approval.
Whether you choose to request seller assisted financing or you’re buying a business with your 401K, consult with a business broker and view the listings on BizSale.com. For more information about this topic, read “Tips for Buying a Business with your 401K”