Can you afford to help your children start a business?
While funding your offspring's venture may make you happy, don't let the process damage your own finances
Amazon, Chipotle and GoPro.These household-name businesses were launched thanks to investments by the founders' parents. But parents have also sunk plenty of money into their offsprings' doomed enterprises, sometimes endangering their retirements and family relationships in the process.
New York certified financial planner Jon Ten Haagen, had a retired client who against his advice gave $100,000 - most of her savings - to her son to start a restaurant. The business failed within a year, and he has yet to pay any of the money back, he says.
"She's just getting by at this point," Mr Ten Haagen says.
So, how can parents help out in a way that ensures they do not lose out?
DON'T OFFER MONEY YOU CAN'T AFFORD TO LOSE
Parents usually want their children to succeed, and many are accustomed to sacrificing to help make that happen. But parents should not be mislead about the risks, financial planners say.
"This investment is going to be concentrated, illiquid, and with high risk of total loss," says Hui-chin Chen, a CFP in Virginia in the US. "If it fits in the parent's portfolio and does not jeopardise their retirement, then it's something both sides may consider."
Parents whose finances cannot withstand losing the money should focus on providing other kinds of support, such as helping draft a business plan or pointing them to the nearest Small Business Development Centre.
INSIST ON A PLAN
Speaking of business plans, make sure your child has one before any money changes hands, says Douglas Boneparth, a CFP in New York. The plan should include details such as the target audience for the business, what competition exists, expected setup and ongoing costs and when the business is likely to be profitable.
"You want to know when you can expect a return, even if it's just knowing your child will be successful," he says.
Good plans require considerable research and effort, so your daughter's or son's willingness to do this footwork can be an indication of whether he or she is entrepreneurial enough to run a business, Mr Boneparth says.
DEFINE YOUR ROLE
Will you be an investor in the company or a lender? Will you have a say in how the company operates? If the business succeeds, will you share in that success with a slice of the profits or the ability to sell your stake?
Parents who are going to be investors or partners should ask for a formal operating agreement that outlines financial contributions, voting rights, rules on making decisions and how people will join or leave the company. Operating agreements are a normal part of setting up a limited liability company, which also can help protect the parents' assets from lawsuits and other problems created by the business.
Many business founders, however, don't like being told how to run their business and may have a hard time answering to shareholders or investors, Ms Chen says.
"In this case, they need to answer to their parents, which can be even more problematic," she says.
Ms Chen has advised clients to instead structure monetary help as a loan, with interest rates applied that meet taxation guidelines in the country the business is based. Parents always have the option to forgive the loan later.
Those who want to minimise parent-child tensions may opt to skip the loan and make an outright gift. Most may not have to worry about gift taxes. In the United States, for example, people can give away over $11 million during their lifetimes before taxes might be owed. But gifts larger than $15,000 per recipient per year trigger a requirement that the giver file a gift tax return.
WHAT ABOUT THE OTHER KIDS?
Parents should also consider family dynamics if there are siblings, since helping one child can foster jealousy in the others. Those "Mum always liked you best" rivalries can tear families apart.
Parents don't have to make equal distributions to each child, but may want to consider accounting for money in their wills or other estate plans. If a loan is not paid back, for example, it could be deducted from that child's inheritance, says Steve Branton, a CFP in San Francisco.
Resist the urge to keep the arrangement a secret, advises Megan Ford, a financial therapist at the University of Georgia and past-president of the Financial Therapy Association. Engage the other siblings early in the decision-making process to discuss their feelings and concerns, she advises.
"A common tactic families use to sidestep conflict is avoidance, but transparency and communication is key to avoiding resentment within the family," Ms Ford says.
Liz Weston is a columnist at NerdWallet, a financial planner and author of Your Credit Score
Updated: July 19, 2018 03:55 PM