Starting a business is an exciting opportunity to build wealth and establish a future for yourself, but too many entrepreneurs jump in without thinking—and they end up in a worse financial position as a result. More than half of businesses fail within the first five years of operations, and if yours goes under while you’re in a compromised financial situation, it could be nearly impossible to fully recover.
The solution is to get your personal finances in order before you start a business, so you’ll have everything you need to sustain yourself as you run your new enterprise.
Your main goals in these personal finance strategies will be:
- Improve your credit score. First, you’ll want to improve your personal credit score. This will make it much easier for you to secure a loan, and could make you look more impressive to investors or partners who conduct a background check on you.
- Preserve your stability. Even the most successful businesses are typically volatile and unpredictable in the first few months of operations. Your income will vary wildly, and you may have to deal with “dry” periods; better personal finances can help you preserve your stability.
- Establish a backup plan. Because there’s always a risk of business failure, it’s important that you have some kind of a backup plan in place. What are you going to do if the business goes under and you no longer have income from it?
The Best Personal Finance Steps to Take
These are some of the best personal finance steps you can take before starting a business of your own:
1. Inventory your assets and debts. The first step you’ll take is inventorying your current assets and debts. What is your current net worth? What types of investments do you currently have? How much do you owe in debt, and what interest rates are you paying on those debts? What is your portfolio like, and how much risk do you face? You’ll need to answer these questions confidently before you can do anything else.
2. Start using a budgeting app. Next, find the best budgeting app and use it consistently. Your budget will serve as the foundation on which you’ll be able to build and achieve all your other financial goals; this instrument will help you save money, reduce your expenses, keep tabs on your income, and divert funds where they need to go. However, to be effective, you need to use it consistently. Set goals for yourself and track every dollar you make or spend on a daily basis.
3. Set up autopayments and pay on time. If you want to improve your credit score, you need to have an immaculate history of payments. A single late payment can hurt your credit score, and a single delinquent account can severely damage it. If you want peace of mind, set up autopayments; that way, you’ll never have to worry about missing a payment. Additionally, check on your accounts regularly to ensure you’re paying all your bills on time and in full. It can take months, if not years of consistent payments to increase your score and keep it high.
4. Reduce your existing debts. You can also increase your credit score and decrease your total financial risk by reducing your existing debts. Some debts, like mortgage debt on a house you’ve bought, aren’t especially bad, because they’re tied to a valuable asset and carry a low interest rate. However, credit card debt and other forms of “bad” debt should be eliminated, or at least reduced, before you start a business.
5. Establish an emergency fund. Once you’ve successfully reduced your debt, you can move to establishing an emergency fund. With the extra money you’re setting aside each month, create an account designed to serve as a backup in case you need it for an unexpected expense or a drought in which your business isn’t generating revenue. Aim to collect at least a few thousand dollars to protect yourself.
6. Start a retirement account. You need to pay yourself first, and plan for your long-term financial future. The earlier you start a retirement account, the better—you’ll have more time to capitalize on the growth rates of compound interest. With a Roth IRA, you won’t owe any taxes on the money you earn from your investments; other tax-advantaged retirement accounts offer similar types of benefits. Make sure you start taking advantage of them before you start building your business.
7. Diversify your income streams. Guard against the possibility of a revenue drought by diversifying your income streams. Consider making passive income from investments like dividend-paying stocks or rental properties, or rely on your partner to provide a steady stream of income in addition to yours. The more different income streams you have, the better protected you’re going to be.
8. Invest in insurance. Speaking of protection, you’ll want to invest in a few different types of insurance before starting a business. Your business will likely need its own types of insurance, but you should have some personal policies in place as well. For example, you can protect yourself and your family with a robust life insurance policy and a disability insurance policy.
9. Create a backup plan. No matter how much confidence you have in your business plan, you have to know there’s a chance of failure. Accordingly, you should have some kind of financial backup plan in place. How are you going to make money if your business fails? Is there a career you can return to? A new career you can start?
Obviously, if you want your business to be successful, you’ll need to manage its finances tightly; you’ll need to exercise firm control over your expenses, generate ample revenue, and distribute profits accordingly. But before you can do that, you’ll need to have your personal financial infrastructure in place. With better personal finance habits, business finances will be much easier to understand (and much more comfortable to follow).
Young Woman Calculating Bills -DepositPhotos