Should You Use Your Retirement Savings to Start a Small Business?
The fast answer? This depends on your age and your savings level.
- It can cost quite a bit of money to start a small business, and credit can be expensive or difficult to obtain.
- An IRA or 401(k) withdrawal might work if you can access your money without penalty and have a lot of savings.
- You shouldn’t be tapping into your retirement savings to start a business if you’re under 59 ½ or don’t have a large nest egg.
If you’re looking to start a small business, you’re in good company. In his recent State of the Union address, President Biden announced that a record 10 million Americans applied to start a new small business in the past two years.
But the cost of starting a new business can be significant. And while you may be able to take out a loan to fund yours, you may also encounter problems qualifying for one.
Even if you Are Being able to get a small business loan or a personal loan, the proceeds of which you use to get your business off the ground, you risk being stuck with an expensive interest rate as lending rates are rising across the board these days. And so you might be thinking about tapping into your retirement savings to get your business up and running instead.
But is that a good idea? The quick answer is that it really depends on two key factors – your age and your savings.
Why your age matters
There are tax breaks associated with putting money into an IRA or 401(k) plan. Because of this, the IRS has the authority to impose penalties for withdrawals made before the age of 59 ½.
Now there are a few exceptions to this rule. IRAs, for example, allow a limited penalty-free payout to buy a first-time home. But for the most part, if you’re under 59 ½, you’re penalized for tapping into your IRA or 401(k) plan if you remove funds to start a small business. And since this penalty is 10% of the amount you remove, you should avoid this penalty.
However, if you’re old enough to access your retirement savings without penalty, then tapping into your IRA or 401(k) might not be a bad choice — provided you have a nice amount of savings.
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Why your savings are important
The purpose of an IRA or 401(k) is to ensure that you have enough money to pay for your living expenses in retirement. So if you plunder your retirement savings for another purpose, like starting a small business, you’ll have a lot less money left over to cover your living expenses later in life.
For this reason, the amount of money you have in savings should be a factor when deciding whether to tap into your IRA or 401(k) or leave it alone. If you have a $2 million nest egg and need $50,000 to start a small business, and you’re already 59½ or older, then making that payout actually makes a lot of sense. Not only is it a small portion of your total savings, but by investing that money in a business you’ll run before and during retirement, you can build a reliable, robust source of income.
But let’s say you need $50,000 to start a small business and you only have a $200,000 nest egg. While it’s great that you’ve been able to save so much, if you’re pretty close to retirement and can see that those balances aren’t growing all that much, then withdrawing 25% of your total savings is probably not a good idea. If you do, you may risk financial difficulties as a retiree.
Running a small business can be a rewarding experience in a number of ways. But think carefully before you tap into your retirement savings to get it going. Depending on your age and savings, you may want to consider other options for funding this venture, such as: B. Taking out a business or personal loan.
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