As a financial planner, I often tell my individual clients to build their financial future by saving for emergencies as well as for retirement. However, entrepreneurs often ignore this piece of wisdom. A study in the United Kingdom by Scottish Widows Savings & Investments discovered that one in five entrepreneurs have no funds left after they invested in new initiatives and paid off their company’s debts. 
While both “regular” investors and start-up capitalists face many challenges in saving for retirement, entrepreneurs find it more difficult. Why? They frequently reinvest all their profits into their business.
Special challenges facing entrepreneurs
An entrepreneur must always choose whether to invest in his business or in his future. On the surface, the two are very much intertwined. However, successful entrepreneurs must separate themselves from their businesses, particularly when it comes to money matters.
While beginner entrepreneurs tend to dip into savings to pay the company’s expenses, including staff salaries, they need a different approach. If you plan to try your hand at running your own business, before you begin, write a plan that delineates when you’ve hit rock bottom and can no longer afford to sponge off your savings. Your savings should be earmarked for retirement and emergencies, not for throwing at a business idea.
Invest in your business or invest in yourself?
Decide how to slice your pie: how much of your profits will you reinvest in your business (which may be necessary to retain the cutting edge in your field) and how much will you save for yourself, your family, and your retirement. It’s fine to dream about selling the business one day and retiring on the profits, but don’t count on it. Since most businesses fail, remember that only slow and steady savings throughout your career can offer you a secure retirement.
As an entrepreneur, you understand the importance of paying bills. But have you ever stopped to consider that you, too, are a creditor? Pay yourself first, and keep in mind that you must both pay yourself enough salary to live and to save.
During the early stages of business development, your business may lack the cash flow for the founder (you) to take a salary. Later on, unexpected crises may compromise your company’s cash flow. Nevertheless, there comes a time when you need to consider your personal future as well as your company’s. Taking a salary is not a luxury.
How do you determine how much of a salary to take? For starters, consider your current living expenses. Then expand the equation to think of your financial plan. Creating a financial plan is akin to creating a business plan. It takes into account current and future expenses, cash flow, and goals, and lets you know how much you need to save in order to achieve your objectives.
While it is rarely considered a smart financial move for an individual to take out a personal loan, since it is preferable to save first and then make purchases, this rule-of-thumb may not apply to entrepreneurs. Sometimes the reverse is true in the business world. Business development loans can increase the value of your business if sales and profits increase as a result of investing in your company. Compare this to the personal car loan where you need to continue to make payments on a depreciating asset.
Consult with a financial planner who specializes in creating plans for business owners and can help you determine the proper split of resources between your professional and personal lives.
Planning for the unknown
One of the greatest challenges in financial planning is accounting for the unknown while wanting to create a set path. However daunting this may be for the individual investor, it is even more so for the entrepreneur, since he needs to begin retirement savings at the start of a career when the future success of his business is unknown.
Plan for success
Every business owner needs to devise an exit plan. Exit plans are as diverse as the businesses they represent. An exit plan covers topics such as whether selling the business will result in receiving residual income or a lump sum, whether the founder will remain in a part-time consulting position, or whether the firm will be passed onto family members.
Since the details of transferring ownership of the company will most likely only be finalized close to your departure, it is important to save throughout your career in the event that the transfer of your business is not as profitable as you wish.
Plan for failure
Sometimes even the best-made business plan doesn’t succeed. In that case, it’s crucial for the entrepreneur to treat the failing business in the same way as he would a losing stock: get out. Before opening shop, hopefully you’ve created a business plan that predicts the projected profits of the firm. If things are tougher than predicted, and money isn’t covering expenses, at a certain point it may be worthwhile to cut your losses (in the same way you would sell a poorly performing stock).
Insurance helps
No one can predict the future markets or future health. As such, disability insurance is an integral part of an entrepreneur’s retirement savings. As an entrepreneur you are responsible both for yourself and your company. Salaried workers need sufficient disability payment to cover their salary. But as a business owner, consider what would happen to your company if you weren’t around to lead it. Would it be able to continue running without your presence? At the same level of profitability? In effect, your disability payments may not only need to cover your own salary loss, but you may need to have an emergency fund to enable the smooth running of the company in your absence. Not only will salaries need to be paid, regardless of whether you are healthy enough to work, but additional workers may be required to cover your absences. And even if the company can continue to function, will its profits (and by extension your savings ability) be lowered?
As an entrepreneur, you probably have a solid support team helping you make wise business decisions. Make sure that you understand the basics of personal finance and investment so you can also make wise decisions in your personal life.
The smartest retirement planning move an entrepreneur can make is to meet with a financial planner who is well versed in retirement planning as well as business succession.
Douglas Goldstein, CFP®, is the Director of Profile Investment Service, Ltd., which specializes in helping people who live in Israel with their US dollar assets and American investment and retirement accounts. He helps olim meet their financial goals through asset allocation, financial planning, and using money managers.
Published November 13, 2012.