Start a business with your 401 (k)? Be careful.

Renee Edwards has wanted to be her own boss ever since she first heard Warren Buffett’s name.

“I have been for a long time,” she said of Berkshire Hathaway chief executive and revered investor. And what always stood out to me is that he says something like, ‘You will never live comfortably unless you work for yourself. “”

In October, Ms Edwards, 45, took the plunge: after 18 years as a clinical researcher at the Roskamp Institute, a pharmaceutical testing company in St. Petersburg, Fla., She quit her job. to launch Saturday Morning Shoppe, a monthly outdoor marketplace with vendors who are women and people of color. Mr. Buffett’s predictions aside, not everyone would have encouraged her to bet on herself. Especially since she made the bet by emptying her 401 (k).

Ms Edwards, a single mother of three, invested the $ 5,000 she had saved for retirement to pay for marketing and donate $ 500 to hold her market on the grounds of Emmanuel Baptist Church in Saint -Petersburg. She knew it was a risk. “It was my only saving,” she said. “Because I had so many expenses, I always made the minimum deposits” into Roskamp’s retirement savings plan. Withdrawing the money came with a penalty on top of the many sleepless nights it cost him. She paid the 10% penalty imposed by the IRS for cashing out retirement savings before she was 59 and a half.

His financial advisor, Toriano Parker, provided some comfort. “Instead of putting me down about using my 401 (k), he said, ‘You should do it,'” she said. His age, which gave him time to replenish his retirement savings, was a factor in his approval. As did his research into the potential profitability of Saturday Morning Shoppe. “Renee had a very solid business plan,” Mr. Parker said.

He said he would not have supported other clients’ bets on a start-up. “You really have to weigh very carefully the decision to empty an account like a 401 (k) or any retirement account,” he said. “For most people, it’s too risky.” A flood of new entrepreneurs since the start of the pandemic may not have received the memo – including those entering the second or third chapter of their careers and may have retirement in sight.

From the second half of 2020 to May 2021, the Census Bureau tracked the highest number of business start-up requests since records began to be kept in 2004, according to a recent report from the National Bureau of Economic Research. Bank loans and venture capital probably did not get most of these businesses off the ground. According to 2019 data from the Kauffman Foundation, a nonprofit that works to strengthen education and entrepreneurship, nearly 65% ​​of entrepreneurs use personal and family savings to fund their start-ups.

Ms Edwards, who is part of the increase in black women becoming entrepreneurs during the pandemic, suspected she would have a hard time getting a loan and didn’t want to waste time trying (her concerns were not unfounded; loan applications from black entrepreneurs are a third more likely to be approved than white entrepreneurs, ”the Kauffman Foundation found). The opportunity struck, “I knew all kinds of people in my community who made things like skin creams and spice rubs, and they had nowhere to sell them,” she said. She also knew that people who had been locked up due to Covid-19 were eager to interact, especially outdoors.

The first installment of Saturday Morning Shoppe took place in April. Within 90 days, following a schedule set by Mr. Parker for her, Mrs. Edwards reimbursed herself: she opened an individual retirement account and funded it with the same amount she had taken out of her 401 (k ) and enough to cover what she lost on penalties. (Although she missed out on gains she could have reaped by staying invested in the stock market.) By October, when she quit her day job, the market had multiplied to 150 out of 64 sellers and had grown. moved from church parking lot to Tropicana Field, the home ground of the Tampa Bay Rays. In December, a second Saturday Morning Shoppes will open in Atlanta.

This is a route that many experts advise against. “The first thing we tell people is not to dip into their retirement account,” said Elizabeth Islele, Founder and CEO of the Global Institute for Experienced Entrepreneurship. Although Ms Edwards is younger than the entrepreneurs over 50 to whom the institute is dedicated, Ms Isele is wary of any risk to a secure retirement.

“One of the sad statistics is that so few people have retirement savings,” she said. According to the New School’s Retirement Equity Lab, 36% of Americans aged 35 to 54 have no retirement savings. At the time of its launch, Ms. Edwards fell into the category of the 43% who had saved less than $ 10,000. “They are vulnerable,” Ms. Islele added. “Women in particular are in a deplorable position.

Instead of tapping into retirement funds, the institute advises crowdfunding to start a business. “If you put your idea on Kickstarter and nobody is willing to invest even a dollar, you know before you spend a huge amount of time on it that it might not work,” Ms. Isele said. But if the idea proves popular, raising a few thousand dollars on a crowdfunding platform may be doable.

Noah Damsky, director of Marina Wealth Advisors in California who has worked with several potential entrepreneurs considering reducing their IRAs, has not put in place a policy of outright discouragement. “I’m not telling anyone what to do,” he said. Instead, it helps them see blind spots. “I’m going to make projections so that they understand their risk profile. “

Marianne Nolte didn’t need that kind of help when she started Imagine Financial Services in Fallbrook, Calif., In 2020.

Ms. Nolte, 55, was already an entrepreneur when she decided to become a Certified Financial Planner. For over two decades, she ran a video production company. “I thrive as a small business owner,” she said. “This is my happy place.” Acting as her parents’ informal financial advisor helped her discover an aptitude for money management. In 2014, she obtained her Certified Financial Planner license. Five years later, after working in a consulting firm to learn the ropes, she was developing a business plan that involved running her IRA.

“It wasn’t a huge part of my portfolio,” Ms. Nolte said. “But I just had to get a slap in the face from the IRS,” meaning the same 10 percent penalty Ms. Edwards paid for taking the early withdrawal. She doesn’t regret it. Still, she wouldn’t advise most clients to follow her lead. “My path was not just the result of a need for change in the midst of Covid. I had a solid plan in place and calculated the numbers. Armed with her license, she also had good reason to trust her instincts when it came to her financial health.

Ellen Curtis had experience with start-ups when she launched the custom denim jacket company Statement by Ellen C. in 2020 as well. But Ms Curtis, 77, who shut down a private nursing company she ran in Los Angeles, Curtis Concierge Nursing, to protect her health at the start of the pandemic, was not as focused as Ms Nolte on alignment of each decimal point. “This time I didn’t have a business plan,” she says. The $ 8,000 in personal savings she invested in making lots of appliquéd jackets to sell was a gamble, which she considered safe because it didn’t involve digging into her investment accounts. Starting a business during the pandemic has turned out to be more difficult than she thought, and she doesn’t know when or if she will feel financially secure enough to fully retire. “I haven’t made a profit yet,” she said. “I feel like I took a risk.”

Here are some tips on what to consider before tapping into retirement funds to open a business.

  • Plan ahead. “If you have a mortgage, make sure you have six months of mortgage money set aside, in addition to the emergency money,” Toriano said.

  • Start small. “You should take a small bite at the start, like a try,” Mr. Toriano said. Ms Edwards’ departure from the church parking lot before moving to Tropicana Field is one example.

  • Make sure you’ve found a niche. “Your idea has to be very innovative, or something that’s needed,” like a bakery in a town that doesn’t have a bakery, said Toriano.

  • Consider the best and worst case scenarios. “The worst feeling is often the unknown, so take the time to consider how bad it could get” if a new business fails, Damsky said. “The result could actually be peace of mind. “

  • Decide if you are ready to become an employee again. Mr. Damsky recommends a backup plan that includes returning to work for a few years if the new business doesn’t work.

  • Do the math. Keep in mind that if you dive into a 401 (k) before the age of 59 and a half, you may owe taxes and penalties on the money, in addition to losing any potential interest gains you would have. could achieve by leaving the money there.

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