Monday, March 12, 2018

Financial Serenity Month - Chapter 2


Let's continue our conversation regarding financial serenity with some ideas for business owners this week.

For the business owners who want to grow their business to the point where it becomes their retirement vehicle, while reinvesting all their earnings back in the business might seem like the smart thing to do, it may prove a disastrous financial sacrifice in the long run. According to the sensible principle of diversification, you should never put all your eggs in one basket; and when that basket is your own business, especially if it is a service-based business that relies heavily on you, that may be a very dangerous path to follow.

A wiser decision may be to save some of the money earned through the business in a retirement account – either pre-tax or after-tax – that will accumulate over time and be there when the business owner is ready to retire. Besides the tax advantages of this plan, the main benefit consists in the fact that the retirement money is not directly tied into the business, and it is protected from any hardships that the business may encounter, plus it will be available when the owner of the business wants or has to retire.

Most people are familiar with the term “compound interest” but that is usually in an abstract sense; they are familiar with the fact that it is important, that it can work in one’s favor or against them. And for the majority of people, that is where their knowledge gets blurry. They do not understand that the more time they have, the more they can benefit from the effects of the compound interest. 

Some of the most frequently used examples show friends who save for retirement at different times. While one starts in their 20’s and only saves for about 10 years, the other starts saving at the same time the first one stops and continues saving until retirement age. Even so, the first friend ends up with more money at the time of retirement – depending on the amounts used and the interest percentage used in the example, the difference can be from a few tens of thousands to some hundreds of thousands.

The difference between the two friends comes not from the amount saved but from the time they invest. The more time you give the compound interest to work for you, the more your savings grow, while the interest gains interest upon interest.

I’m not going to get on my soap box lamenting the lack of financial education from the US school system. Even though it is important to raise the level of understanding for all the people growing up in an economy so very different from the one experienced by their parents and grandparents. While the good news is that more and more people start businesses and/or become self-employed, the bad news is that these people’s financial security and safe present and future is in their own hands, since their employers are no longer present to provide the benefits that will take care of them in the long run.

Most solopreneurs make the decision to put all of their income back into the business in order to build the business. They think that it will all pay off in the future because they will make more money and, in the end, can sell the business. Unfortunately, most of the time, this is not a solid exit strategy. Nobody wants to buy your job. Therefore, the only way to have a sellable business is by building systems that can be followed and duplicated.


For the business owners reading these lines, I would like to suggest a great book that gave me a lot to think about, and made me tweak a few things in the cash flow of my company: "Profit First" by Mike Michalowitz. He uses the principle of "pay yourself first" - so often used in personal finances - and adapts it to the set up of a company. I would encourage anyone who wants to find their financial serenity, to read Mike's book and apply the knowledge he shares. It will change your life - literally!

And if you are an employee, don't despair, there is also a path to financial serenity for you! We will talk about it next week.

No comments:

Post a Comment