Entrepreneurs are a special breed in the world of personal finance. Unlike most of us, they're not expecting a steady paycheck every couple of weeks. Their personal financial planning can be much more complicated and tied to the overall health of their company.
We've reached out to Mitch Reiner to get the skinny on how entrepreneurs should manage their personal finances.
Q: Why are the financial planning needs of entrepreneurs different from most others?
It's easy for an entrepreneur to tie up all or most of their net worth in their business. While most people build their net worth by saving and investing in financial products and real estate, many entrepreneurs that I've met continue to invest in their business with the belief that they'll recoup their investment when they sell the business or begin to really pull profits. The lack of diversification makes their financial planning and retirement planning different from someone who saved in a 401k.
Q: When should entrepreneurs separate their business expenses and personal expenses?
Entrepreneurs should separate their expenses immediately. Business owners, their spouses and their families need to live a life based on an ordinary income earned from their business or one similar to theirs, so they could recreate the same lifestyle in another profession should something happen with their business.
Q: Should an entrepreneur take a fixed paycheck or just pull from the profits?
They should pay themselves a fair salary as soon as possible. This will help them with separating their business and personal expenses. It's not always possible to immediately start taking a fixed paycheck, though. If that's the case, then they should accumulate a “note” due to them for the salary that they are unable to take in the early years.
Q: What’s up with the San Francisco $1 salary?
The $1 salary is a bet on the future. This is fine in an early stage startup, but entrepreneurs are a much larger category which also include successful businessmen who don’t build HUGE businesses. There is a difference between startups and entrepreneurs of traditional businesses.
Q: When should an entrepreneur be comfortable spending the profits of the company?
When they can cover six months of payroll with cash in the bank. It’s the same as an emergency reserve for an individual, but on the business side. For both personal and business, it's important that you build some financial cushion for yourself in the event that you run into a rough patch.
Q: How much of the profits should go back into the company?
This depends on the opportunities that exist. There is no magic number that all companies should strive towards. Instead, build an emergency reserve, take care of your current team (with bonuses or long-term support) and then determine opportunities that exist for your growth or opportunities. If you can find an area where reinvesting "X" amount in your company could give you "2X" returns, it makes more sense to reinvest the money in your company so you can enjoy higher profits later.
Q: What are some little-known financial planning secrets of entrepreneurs?
They like to own the real estate in which their companies operate from within.
Q: Do you have any examples of entrepreneurs doing a great job at financial planning? What about a terrible job?
Great job: An entrepreneur spending less than what they actually could make (or do make) and not taking it into account. (Hm, sounds similar to what we should all do...)
Bad Job: An entrepreneur investing all of their company's assets in ancillary businesses that have supported their business but that are unfortunately unprofitable interests. For example, a business owner might think it’s a good idea to buy the company that does her marketing so that she doesn’t have to incur the expense and can instead earn a profit on this line item. However, this hardly works as it takes their focus off their core business and they lose money in the process.
Well there we go, my entrepreneurial friends. There's clearly plenty of similarities between financial planning for your 9-to-5 friends and yourselves, but there are a couple of nuances that you don't want to ignore.