So, you've got a startup business that could use a financial investment, some extra cash for operations or important assets, and you want to finance it yourself with your own money.
How do you go about it, while making sure it's all above board?
Let's work through 5 ways to invest your own money into your business, that separates your responsibilities as an owner and protects your rights as an investor.
1. Self-Financing Business Activities
Millions of entrepreneurs and startups use self-financing to raise capital without the agony of traditional fundraising routes.
If it's a new business, your owner's contribution to an LLC is a normal part of the investment process.
However, if the business isn't a corporation, you can finance it by simply depositing a personal check into your business account.
However, there are risks to using personal savings and you'll need to make sure you aren't using short-term debt products like credit cards to shore up your cash flow.
Some of the options for self-financing include:
- Depositing cash through your capital account and increasing your owner’s contribution.
- Buying shares in your own company as an investment and becoming a shareholder.
- Contributing from personal savings, friends, family, or asset sales.
One of the solutions to consider is having a savings product, like a high yield savings account, where you could take all your returns and immediately reinvest them back into your business.
Rather than risk all of your personal wealth, you can channel your surplus cash into a secure savings account and use the returns as a regular stream of money when the business needs a cash infusion.
2. Forgoing Profit Shares Or Dividends
The next option is beyond simple: adding additional capital into the business isn’t the only way to provide financial support!
Instead, if you reduce the money you take out (or the money your business spends overall), you're immediately improving the company's financial standing without raiding your personal savings.
This isn’t always a business owner’s first instinct, but limiting your personal gains in the short term here can reduce the financial investment your business ultimately needs.
Again, there isn't a set route for this, but some options are:
- Taking a lower salary while the business gets started
- Deciding not to declare shareholder dividends (if you're the sole owner, that's a more straightforward deal than persuading other investors to give up their profit share!).
- Reduce your claimable expenses - if these expenses are properly accounted for in your director's account, any costs you've covered for the company are still tax-deductible when it comes to filing returns. The key is to keep accurate records. Bookkeeping can seem like a necessary evil, but it’s best to have a paper trail if the IRS comes knocking and wants to run an audit.
Reinvesting profits back into the business, rather than sharing the spoils of a first year's success, can showcase absolute confidence in the company and improve your long-term efforts of attracting investors.
3. Create A Business Loan
Another way to invest in your business is to lend it money - depending on the investing structure, you can loan cash, even if you're a shareholder or director.
But the paperwork remains crucial here too.
Some things you'll need:
- A business loan agreement, usually written by an accountant or lawyer showing that the transaction is 'at arm's length' - i.e., it's a separate deal from your association with the business.
- Clear terms of repayment, interest rates, and penalties for non-payments. This not only formalizes the agreement with your business, but also protects you as an investor in the long run.
- 1009-INT Forms from the business at each year-end, showing how much interest you have earned.
Note that the repayment of the principal (the original amount loaned) isn't taxable since you've already paid taxes on the cash before you loaned it to the business.
4. Financing Business Asset Purchases
Before you allocate funds to invest in your business, it's wise to think about where and how the company will use that cash.
If the business needs to acquire a large asset, like purchasing a new piece of machinery or a work truck for example, you might need that capital on hand to cover those costs.
Perhaps this is a new business that doesn't have the credit history established to go down a traditional bank loan route, or you've got extra savings and are happy to cover the expense!
As with the other investment ideas here, you need to be conscious of the documentation.
Let's say you’re looking to buy a truck.
The cash is yours, but you want the asset to belong to the business - so how does that all work?
- Agreements, vehicle ownership documents, and receipts all need to be in the business's name. If you plan on selling the company at a later stage, you'll need the asset (and it’s book value) to belong to the company legally.
- You could pay a vendor directly, and account for the costs through your capital contributions account in the balance sheet.
- Alternatively, you could transfer the cash to the business, record it in the same account, and buy the truck directly as the business.
You won't need to worry about depreciation - the truck is a business asset now, so that transaction impacts the books, not the investment you made.
5. Funding A Business Through A Retirement Account
Our fifth and final option is to use an IRA, 401(k), or another retirement account to finance a business.
A rollover for business startups (ROBS) means you can draw on savings, without taxes or penalties, for an early pension withdrawal.
In practice, your retirement plan owns shares in the business, so that means you can earn profits in a retirement account, along with all the inherent tax advantages.
This type of contribution isn't a loan, so the business won't need to start making monthly repayments while it's still building up traction.
A ROBS can be a smart move for business owners who want to invest in a new business without landing it in debt from day one, however, there are some heavy considerations to be made before funding your business through a retirement account:
- You'll usually need at least $50,000 in the account.
- You are putting your retirement funds at risk if things go south.
- The business is more likely to be subject to an IRS audit.
If you think a ROBS is a good option, it's wise to seek advice from an advisor, as there are a fair few tax and legal issues you'll need to iron out.
Investing In Your Business
Getting your business off the ground often requires a lot of capital - cash that the founders, owners, or external investors typically add into the business in hopes of growing the business and getting a better return.
When looking to make an investment into your own business, it’s important that you keep detailed financial records of all money coming in or out, payment terms, and any legal documents required to keep it above the board for the IRS.
Self-funding can be a powerful tool for small businesses, provided you as the contributor are in good financial standing and can use that money to strategically grow your business. As always, seek financial and legal counsel before making any decisions, and keep your investors informed throughout the process.