A business startup has the potential for high rewards, but it can also have higher risk than working for someone else. Developing a plan and mapping out the details before a business launches can prevent costly mistakes. This can be an opportunity to continue educating your child on financial matters. Since a business is a "living" thing, I compare it to a steam locomotive – it will always need fuel in order to make steam and move forward.
Has your child asked for your help with starting a business? If the answer's yes, chances are you may not know where to start.
Since the failure rate for new businesses is high, it would be supportive for you to do whatever you can to increase your child's chances of success. That includes considering the following:
Find out what groundwork has already been done. Before involving yourself, find out how much time, thought and effort your child has already devoted to the proposed business. If the enterprise is no more than an idea, you can suggest approaches to researching the market and determining the resources, knowledge, and skills that will be needed. However, your input should be limited to guidance and ideas. Your child should do the work. Once your child has completed the necessary groundwork, and if the project still seems feasible, you'll be ready to consider the next steps.
Determine what kind of financial support you'll offer or not. Whether you're making a loan or buying an ownership interest, never put up more money than you can comfortably afford to lose. Try not to be the sole source of capital. Make it clear that you'll lend or invest a specific amount and no more. You also may wish to set restrictions on the use of the funds within the business. Risk is part of the business experience, and your child should have some personal assets at stake.
Put everything in writing. Specifically, loans should be supported by signed notes that include repayment terms and require interest at market rates. Investments should be supported by partnership agreements, shareholder agreements or similar documents that describe operating arrangements, profit and loss sharing, buyout provisions and closing contingencies.
Don't forget tax planning. You'll probably want to allocate any taxable income to your child, and you certainly will want to be able to write off your loss if the business goes bad. Proper documentation will be paramount, since the IRS closely scrutinizes family transactions.
If you're thinking about helping your child get started in a business, give us a call. We can offer guidelines to fit your circumstances.