What does personal finance have to do with running a business? There’s more overlap than you might expect.
As a new or aspiring entrepreneur, a strong personal financial plan can help you make informed decisions about the financial costs and risks that come with starting a business. It can also help you deal with the stresses that come with an erratic income or unpredictable cash flow. And, if you ever find yourself needing to take out a loan for the business, your personal financial history can determine what options will be available.
Here, we’ll cover how these four specific areas of personal finance may impact your business.
- Budgeting: Where does your money go on a day-to-day basis? How much do you spend and how much do you save? Are your costs fixed, or can you adjust them when times are tight?
- Investing: What are your long-term goals, and do your investments serve these goals?
- Emergency plans: What would you do if you unexpectedly lost your income or ran into a large expense?
- Personal credit: What are your options if you should choose to take out a loan?
Budgeting gives entrepreneurs the knowledge to make choices that will potentially reduce their income.
1. Why, and when, budgeting is important for entrepreneurs
This is powerful because many entrepreneurs find themselves at a point where they want—and perhaps need—to quit their day job in order to grow their business. It’s extremely stressful to give up a regular source of income for something that’s far less certain or reliable. If you know exactly how much you need to earn in order to get by, and how long your savings will last, this decision suddenly gets a whole lot easier.
All that goes to say that budgeting is especially important for entrepreneurs who are gearing up to quit or change their day job in order to devote more time to their business. Budgeting is also essential if you’re saving for startup costs and you need to project how long it will take to reach your goal sum.
2. Why investment planning is important for entrepreneurs
Building a business is an investment—you’re pouring time, energy, and money into something with the goal of making something that will eventually be worth more than everything you put into it.
At the same time, investing in your business can prevent you from pursuing other investment opportunities. For example, if you’re working full-time on the business, you might be taking a lower salary and contributing less to your retirement accounts. You might also decide to put some of your savings towards business expenses.
A lot of financial advisors recommend putting the bulk of your money into low-risk investments, and starting a business definitely isn’t low-risk (though it can pay off exponentially). Here, the goal isn’t to necessarily follow conventional investing advice, but rather to look at how the business fits into your long-term financial goals. This will allow you to take calculated risks and ensure that you’re not overlooking something critically important, like your retirement plans.
3. Emergency funds and entrepreneurship
An emergency fund is simply money that’s set aside but still accessible for emergencies. They’re useful for covering unexpected expenses (medical bills, car or home repairs, moving costs, etc) or sudden unemployment.
Although emergency funds are handy for anyone, they’re especially important for people with variable incomes and expenses … which is pretty much the definition of a freelancer or an early-stage entrepreneur.
When you transition from working for an employer to working for yourself, you typically go from having regular, predictable paychecks to having huge spikes and dips in income. You also have to put money aside for taxes, and many business owners find themselves owing more than they expect at the end of the year. An emergency fund acts as a crucial buffer, allowing you to cover unexpected expenses without being forced to make hard choices.
4. How your personal credit score can impact your business
Your personal credit score determines who will lend you money, how much they’ll offer you, and how much they’ll charge you for the privilege. If your credit score is high, it’s an indication to lenders that you’re very likely to repay the loan; as a result, lenders are likely to approve your application, give you larger loans, and charge lower rates and fees.
Your personal credit is important in the early stages of starting a business if you, like many entrepreneurs, decide to take out a personal loan or line of credit for startup costs. Affordable access to credit can also help you take advantage of opportunities that come up suddenly, like the opportunity to purchase discounted inventory that you know you’ll be able to sell at a profit.
If your business has an EIN (employer ID number), you can cultivate its business credit history. This is a very good thing because it allows you to get a loan for your business without risking your personal credit. However, lenders will still often look at your personal credit when you apply for a business loan—it’s one of several factors they look at to determine whether or not your business is likely to repay. This means that your personal credit will probably continue to influence your loan options and rates for a lot longer than you might expect.
What does this mean for my business plans?
When you’re starting a business and beginning to formulate all your plans and goals, creating a new personal finance plan probably isn’t the first step that springs to mind.
And even though all of these things (a budget, an emergency fund, an investment plan, and strong personal credit) can help your business, that doesn’t mean you need to get your finances perfectly in order before you get started as an entrepreneur. It might not even be possible to put personal finances first; many people choose entrepreneurship because they aren’t able to find good employment opportunities elsewhere.
So no, you don’t have to get your personal finances in order before you start your business. What you can do, however, is use this information to plan for the future. When you’re starting to think about quitting your day job, you’ll know it’s time to focus on your budget and building an emergency fund. If you think you might want a business loan in the future, you can start paying attention to your personal credit now.
As an entrepreneur, there’s a strong link between the personal and professional aspects of your life. By understanding the connections between your personal finances and your business opportunities, you’ll be able to make choices—in both areas—that set you up for success.