The Importance of Diversification for a Business Owner

As a business owner, you likely know that it’s important to diversify your investments in the marketplace. Whether you’re acquiring other entities or dealing in the stock market, putting “all your eggs in one basket,” so to speak, is never the wisest plan of action. But when it comes to diversifying between your business and personal assets, many business owners tend to overlook this basic planning principle. In this blog, we will discuss why it’s important to spread the wealth between your business and personal finances.

Case Study: When the Worst Happens, Make Sure Not All is Lost

I have a very wealthy friend I’ve known for many years. He is extremely successful, and he does not hide this fact. He also owns a business, and as far as developing a succession plan, he has done everything right in preparation to pass that business on to someone else.

As far as diversifying his investments, I advised this friend for years not to keep all of his assets under his business name. I encouraged him to invest portions of it into secure funds that would benefit him and his family in the future. This friend likes to manage his own investments, though, and he is not a fan of letting go of his cashflow, even if it is to store it away for future use. So, while he did not tether all of his wealth solely to his business, he could have established a few more safeguards, in my opinion.

About a year ago, he was driving home from work and lost control of his vehicle. His Mercedes crashed into his neighbor’s driveway and killed the family’s teenage son. It was devastating—that family’s life will never be the same again. And while no amount of money can make up for that loss, they ended up suing my friend for $5 million in damages. He considers himself lucky that he only lost that much. Everyone in his life knew how wealthy he was, but the courts could not go after much more because those assets were under his business name, and thus separate from his personal assets.

It’s a tragic example, but it’s true, and unfortunately, these situations happen. Had my friend not divided his assets the way he did, the family could have gone after his business—and that would have destroyed his retirement plan for himself and his own family.

Singular Growth is Double Loss

It can be tempting—especially for passionate entrepreneurs—to invest most of your assets back into your company. It is exciting to see your business grow rapidly, and to keep pouring back into that effort. But while your business might be your “baby,” you shouldn’t treat it as such when it comes to your finances. You want to create a balance across your personal and professional assets and establish purposeful safeguards that mitigate risk.

Sometimes the reverse is true—when people experience significant business success, they hurry to invest those rewards into their personal finances. But when you do this, you also double your risk of losing everything if something goes wrong. If your business goes under, you lose substantial cash flow for personal expenses. If you experience hard times personally, creditors can target your business assets. Either way, if you do not diversify between your business assets and your personal finances, you run the risk of damaging both investments in one fell swoop.

Unless you’re willing to risk both buckets of your financial resources, you need to establish a strategic veil that separates the two. If your business is truly financially viable, after all, it should be able to support its own weight at some point. Your personal money is for you, your family, and your well-being—not to support your business in an emergency. When you invest your money intentionally into retirement accounts and create a strategic balance between your business and your personal assets, you create a layer of protection from risk and liabilities in both areas of your finances.

We’re Here to Help

Identifying the best way to allocate your resources is complicated, especially when you’re managing a business in conjunction with your personal finances. That’s why at Financial Literacy, we love working with business owners. We know that running a business adds layers of complexity to your financial landscape, and we want to help you navigate through the planning process. If you have questions about diversifying your assets, we’d love to talk with you. Call or send us an email to schedule a consultation.

SMRU 1889658 | EXP 2/23/2023