Financing Options for Starting a Business Later in Life

Using private investment money.

Private investment in the form of venture capital, angel investing and even government venture capital programs tends to be reserved for high-growth start-ups. If this is you, read "Five Tips for Finding and Securing Private Investors for Your Start-Up."

Borrowing against or tapping into your retirement account.

If you've exhausted all other options, you may find yourself wondering whether you should borrow against or tap into your retirement funds. It's likely most financial professionals will advise you not to. The risks are high. But using your own retirement money can give you a degree of flexibility and control over your business investment decisions that you won't have if you're borrowing from financial institutions.

Prudent financial planning, including consultation with a business mentor, will help you weigh options, risks and funding sources to decide whether to pursue your entrepreneurial dreams this way.

You can find other resources for making this difficult call at this Federal Deposit Insurance Corporation Web page or at MyMoney.gov, a site run by the Financial Literacy & Education Commission, a joint effort of 21 federal entities.

If you do opt to use your retirement savings to fund your business, here are three options:

1. Borrow against your 401(k). Instead of withdrawing funds outright, you could take a personal loan from your retirement account. If you have a 401(k) account, you can typically borrow up to 50 percent of your funds or $50,000, whichever is less. Unlike with business loans, repayment terms require that all of your loan be repaid to your 401(k) within five years on a quarterly payment schedule. You'll also need to pay interest on the loan, usually about 1 percent, which goes back into your 401(k).

Before you can take a personal loan from your 401(k) you will need to do a few things:

• Incorporate your business to reduce your personal liability;

• Arrange to buy all of the stock in your business with the loan from your plan;

• Roll your remaining 401(k) assets into a new plan managed by your incorporated business.

Be sure to talk to your accountant and your existing 401(k) administrator and get the right professional advice before embarking on this option.

2. Invest 401(k)/IRA funds directly in your business. If you really must tap your retirement funds, tax law allows you to do it without penalty or interest if you follow certain rules — which can get complicated. Essentially, you will need to structure your business as a "C corporation" that will issue all of its stock and transfer it to a new 401(k) profit-sharing plan in exchange for the cash in the plan. You will need the help of a tax attorney or accountant to handle incorporating and setting up the new retirement plan.

3. Withdraw directly from your 401(k). This should be your last option. Anything you withdraw is subject to regular income taxes and could draw a hefty tax penalty depending on your age (10 percent if you're 59-1/2 or younger).

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