Debunking the worst financial advice ever given to SMBs
Financial mistakes could cost you and your business a lot of money. If you’re a large enterprise, you probably have cash reserves and other coping mechanisms to help get you through rough patches. If you’re a small or medium-sized business (SMB), however, the impact of such a mistake can be very destructive. As a company dedicated to keeping small business in business, we believe financial education is critical to this goal.
That’s why, this year, we decided to celebrate Financial Literacy Month, which took place in April, by asking small businesses to share with us on social media some of the worst financial advice they’ve ever gotten. Each bad piece of advice we got (and there were a lot of them) was a chance for us to provide solid tips and help other businesses avoid the same mistakes.
Here are five of our favorite bad pieces of financial advice, set right by Melio’s own experts and Sabrina St. Peter, who operates SmartSpark Business Solutions, a remote bookkeeping service for small businesses.
Bad advice #1: “It’s okay to use your personal credit card to pay business bills.”
Let’s make this absolutely clear: this is never ever a good idea. While it’s technically possible and legal to use your personal credit card to pay business expenses, it will do you and your business a real disservice.
Covering your business bills with your personal card is bad for business because:
- It makes tax season an even bigger challenge. When you use the same card for both business and private transactions, you can quickly lose track of which is which. This means you could miss out on tax deductions you’re entitled to. You might also forget to bill your customers for reimbursements on transactions made on their behalf, for example, door-to-door delivery for those super urgent documents that need signing.
- Personal cards have lower credit limits. Running a business is expensive and requires large amounts of accessible funds for purchasing equipment, services, and supplies. That is why business cards have significantly higher limits that are suited for the needs of a growing business.
- It weakens your legal protection. Incorporating as a business has many benefits including protecting the owner (that’s you) from financial liability. This means your personal assets are protected from being seized if, for example, your business gets into debt. If you use the same card for both personal and business expenses, you’re at risk of piercing the corporate veil, giving creditors cause to go after your own finances, car, or home.
- You’re not building your business credit history. If, at some point, your business needs a cash infusion, potential lenders, as well as investors, will want to review its credit history. It’s part of the due diligence process and is meant to establish trust and assure these third parties that their money will be in good hands. So, if you’re using your personal card for business purchases, you might find it difficult to secure funds in the future.
There really aren’t many good reasons to use a personal credit card for business transactions. Still, if you are unable or unwilling to get a business card and prefer to use a personal one, make sure to use separate cards for each type of transaction—it’ll save you a massive headache in the future.
Bad advice #2: “There’s no need to separate business and personal finances when starting a small business.”
For this one, we turned to Sabrina, a small business owner herself who runs a bookkeeping firm focused on SMBs. Here’s what she had to say:
“If you’re starting a business, make sure to immediately separate your business and personal finances. There are so many reasons for this, but for one, it’s going to make your life way easier come tax season.
Even if you do absolutely nothing with your bookkeeping throughout the year, which I don’t recommend, you can simply pull your bank records and know this is everything that came in and out of your business. This will only work, however, if you separate your personal and business expenses from the get-go.”
Bad advice #3: “Don’t start saving for retirement until you’re 60.”
This advice is not strictly relevant to business owners but to every single adult out there. And, it’s so blatantly wrong that we felt we just had to respond to it as a public service.
Let’s start off by saying: We get it. When you’re in your 20s or even 30s, retirement seems a lifetime away. That’s probably why, according to the Federal Reserve, 25% of non-retired adults have no savings at all. But, trust us, retirement is coming, whether you like it or not, and it’s expensive.
While it’s tempting to have more cash on hand now, you must also consider what your life would look like later on. You will always need to pay for living expenses, groceries, entertainment, medical treatments, and travel, even when you’re no longer able to work. Starting to save at an early age (or today, at the latest) is the best way to ensure you can afford the necessities (and pleasures) of life in your golden years.
There are a lot of reasons to start saving early but the most important one is compound interest. Money doesn’t grow on trees but it does grow with time in savings accounts. Essentially, the longer your money is deposited in a pension fund the more it will be worth when you retire. This is thanks to your new best friend, compound interest.
What this means is that for each period of time your money is deposited you get a certain percentage as interest which includes both your investment and the accumulated interest from previous periods. If you make a one-time $100 deposit with a yearly return of 10%, for example, by the end of the first year you will have $110. By the end of the second year, you will get an additional 10% on top of that, so you’ll now have $121. In 10 years, you will have $259, without depositing another cent, simply thanks to compound interest.
Now, let’s break this down with a retirement-specific example. Say, you and your twin brother both deposit $4,200 into your retirement funds every year and enjoy the same annual return of 7%. The only difference is that you started saving at 22 and your brother only started at the age of 32.
By the time you both reach retirement at 67, your brother will only have $580,595 but your fund will be worth over $1.2 million. That’s almost twice as much. Not bad for an additional investment of just $42,000 spread over 10 years, right?
Even if you only have a small amount to deposit at the moment we really can’t stress enough how much better off you’ll be if you start saving sooner rather than later. To see just how much your deposits may be worth over time, you can use the SEC’s handy compound interest calculator.
Bad advice #4: “To start your own business, you need a storefront.”
This one is a bit outdated. It seems the advisor is a few decades behind on technological advancements such as online shopping and social media marketing. You absolutely don’t need a physical store, which is a huge financial commitment that can be overwhelming when you are just starting out.
Many businesses, from retailers to startups, were launched in an entrepreneur’s garage or kitchen. If you have a good product, it’s better to invest in creating an online presence on as many channels as you can, including a website, a virtual store, social media, and online ads. These channels help you reach a lot more people with a much smaller initial investment. And, you can always open a physical store later, once your business is more established and you can get better credit.
Sabrina also noted how the world has changed in recent times making physical commercial spaces less crucial:
“One of the things we learned over the past few years is that you can start your business at home. You don’t need to invest in a storefront to start your business. Don’t let not having a brick and mortar space stop you from showing your products to the world.”
Bad advice #5: “Take a personal loan to start your small business.”
This one is actually not as clear-cut. We’ve found experts who say it makes sense in some situations and others who advise avoiding a personal loan for business purposes at almost all costs. To help you decide what type of loan is best for your particular situation, let’s outline some of the reasons you may choose one over the other.
Many lenders require you to submit business documents, including tax returns and pay stubs, as well as some form of security, to be eligible for a business loan. If you’re just starting out and looking for initial funding for your business, you may not have any of these yet. In this case, you can opt to get an unsecured personal loan based on your own credit history, until your business is more established.
It’s important to remember, however, that a personal loan affects your own credit score. This means that if your business doesn’t get off the ground as quickly as you planned and can’t meet the payments, it affects your eligibility for personal credit, for example, a new credit card or a mortgage. A business loan, on the other hand, is based on your business’ credit score and history and shouldn’t, under normal circumstances, affect your personal credit.
Another reason to prefer a business loan is that its credit limit is typically higher than a personal loan. As we’ve already said, running a business takes large amounts of cash, so if your business plan requires an investment of more than $100,000, which is the limit for most personal loans, you’ll have to apply for a business loan. The Small Business Administration (SBA) offers government-backed business loans of up to $5.5 million, so that’s a great place to start if you need more funding.
If you do decide to take out a personal loan, thoroughly review its terms and conditions to make sure you’re not violating them by using the funds for your business. It’s best to tell the lender directly what your plans are, to make sure they are on board. Another thing to remember in this case is that the business will still need to repay you for the loan, just like any other lender, so your own financial resources aren’t depleted.
Celebrating financial literacy throughout the year
At Melio, we believe that making the right financial decisions is key for every business to thrive. This is twice as true for growing businesses, which are our main focus as a company. We also believe every day is a good opportunity to learn more about your finances.