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Risky Business: During recessions, small business owners often self-finance. Beware.

each year thousands of entrepreneurially minded Americans start new businesses, ventures that promise owners the freedom to, as the federal Small Business Administration puts it, “be your own boss, set your own schedule and make a living doing something you enjoy.”

But, sadly, that’s not the whole story. This same SBA start-up primer cautions that, while business ownership has its privileges, there are also perils. “Becoming a successful entrepreneur requires sound planning, creativity and hard work. It also involves taking risks because all businesses require some form of financial investment.”

During tough times, when cash flows are stressed and credit is tight, small businesses are particularly vulnerable to failure. In order to stay afloat their owners generally turn to two strategies. On the one hand, they try to trim costs and tightly control cash flows. On the other, they draw on personal savings and other “non-bank-related” sources of “financial investment.”

This second strategy, says MU’s Tansel Yilmazer, can lead to trouble. “Since business is inherently risky,” she says, “financing with owner resources would seem to extend that risk to the household in ways that owners may not be adequately considering.” Bankrolling your business, in other words, can bankrupt your family.

In a study published in the Journal of Family and Economic Issues earlier this year, Yilmazer, an assistant professor of personal financial planning, teamed up with Holly Schrank, a small business finance expert and professor emeritus at Purdue University, to examine owners’ risk perception and financial acumen.

As one might suspect, the researchers found that families and businesses often share resources. This works out fine when the business generates income. But when cash flows the other way, as often happens, owners are not always aware that household assets could become, as Yilmazer puts it, “susceptible to loss.”

In fact, she says, “small and family businesses may be riskier than other investments because they are more susceptible to attrition.”

Yilmazer and Schrank caution that they are not advising potential business owners against following their dreams — just that they fund their dreams with eyes wide open.

“Ownership may serve as a source of income and expenses as well as an investment vehicle,” she says. “But it is not generally understood or considered as a household portfolio risk.”

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But when cash flows the other way, as often happens, owners are not always aware that household assets could become, as Yilmazer puts it, susceptible to loss.
 

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