Running a small business requires superior problem solving and the ability to see the big picture. In addition to making sure your business is generating a profit on a regular basis, you also need to be concerned about your own long-term financial health. That includes having a wealth-building strategy in place so you can enjoy a comfortable retirement once it’s time to hand over the reins of your business to someone else. As an entrepreneur, there are certain obstacles that you need to be prepared for that can hinder your ability to create wealth. (For a detailed rundown, see the Starting a Small Business researcher’s tutorial.) Here are four major challenges small business owners face.
1. Too Much Business Debt
Getting a small business off the ground usually requires a certain amount of cash. Getting a term loan from a bank or a loan from the Small Business Administration (SBA) may be the answer if you don’t have considerable savings to tap into. With an SBA 7 loan, for example, it is possible to borrow up to $5 million to establish a new business.
Even if you don’t need a loan to get started, that doesn’t mean your business will remain debt free. For example, you might decide to open a business credit card to earn rewards on everyday spending or take a business cash advance to help cover your cash flow during slower periods. Or you may want to borrow to expand, especially if business is doing well. While credit cards, cash advances, and loans can be invaluable in keeping your business running, their convenience comes at a cost.
If a substantial portion of your business income goes to paying off your debt, that leaves less income to devote to growth. It also leaves you, as the business owner, with less money to funnel into a single 401(k), SEP IRA, or similar qualified retirement plan to secure your own future. While interest is on a small business loan, the payments themselves are not. Paying off your business debt allows you to redirect funds toward your retirement or a taxable brokerage account instead.
2. An inefficient fiscal strategy
As a small business owner, filing and paying taxes can be one of the most unpleasant tasks on your to-do list, but it’s a necessity. If you’re not taking advantage of all the available tax breaks, your wealth is going away without even realizing it. Are there a number of tax credit deductions you can claim on your personal or business tax return? An expense must be considered both ordinary and necessary. This means that the expense must be something that is commonly associated with the type of business you own and is directly related to your operation.
When you don’t take the time to maximize all possible tax advantages, the result is too large a tax payment. Hiring an accountant to manage your filing may slightly increase your business expenses, but it may also help minimize your tax liability. In terms of wealth creation, the long-term benefit can easily outweigh the cost.
3. Lack of diversification
Owning a business requires a certain amount of juggling, and you may just not have the time to pay as much attention to your investments as you’d like. The size of your assets affects your overall financial situation, including how you are viewed by banks, especially if you are a sole proprietor. Investing in mutual funds or exchange-traded funds takes the hassle out of trying to put together a complete portfolio, but it can be problematic if the funds you’re buying have the same underlying securities.
Business owners can also get into trouble if they don’t rebalance regularly. This is critical to ensure you maintain the correct asset allocation, based on your investment objectives and risk tolerance. If you don’t rebalance regularly, you could end up with a portfolio that is too aggressive or too conservative. At one end of the scale, you risk losing money by betting too much on stocks. On the opposite side of the spectrum, you risk limiting your profit potential if you are playing it safe with a large number of jumps. Either way, you are jeopardizing your future profitability by not paying attention to how diversified your portfolio is.
4. External risks
In addition to managing market risk, you must also exercise caution to protect yourself and your business from threats that may arise in other areas. For example, what would happen to the business if you got sick and could no longer oversee its operation? How would your business and personal assets be protected if your business became the target of a lawsuit? What would you do if your business was damaged by a hurricane or other natural disaster?
These are the types of questions small business owners should consider, because while such scenarios may seem unlikely, they can have a substantial impact on how wealth grows. Choosing the right business structure is an important step in minimizing liability, but you should also be proactive in reviewing your business and personal insurance coverage to ensure you’re protected against all possibilities.
