financingMost small business owners know of the challenge of dealing with sudden expenses or the need to make a quick investment to help their company grow. When these situations come up, many business owners tap their personal finances to provide what acts essentially as a short-term loan to the company.

Small business owners might want to think a little more before doing this, however. Once a company is established, the use of personal funds becomes a bit more complicated than you might imagine.

How and when to do it—and where the risk lies

There may be situations in which investing your own money in your business can work to your advantage. Perhaps surprisingly, the best time to do so is often when you’re actively seeking loans from third parties. If prospective investors can see that you’re sufficiently committed to your business to the point that you’re willing to put your own money into it, they may be more inclined to get on board with funds of their own. Another time in which your personal money might be sufficient is when you know you have the funds to spare, either in savings or in assets that you can sell for a quick infusion of cash.

But it’s important to keep in mind that there’s a certain amount of risk involved when it comes to investing in your own business. The biggest risk comes from investing personal funds in a business other than a sole proprietorship, as it intermingles personal and business finances in ways that can be legally shaky. Additional areas of risk include borrowing in your own name using a credit card or other high-interest funding source, along with taking out a home equity loan or second mortgage—which can be extremely risky if your business goes south and you’re unable to make payments.

How to protect yourself

As with any business transaction, the key to protecting yourself when financing your business with your personal money—aside from doing so without assuming entirely unnecessary risk in the first place—is to make sure everything is properly documented. If you are putting personal money into a partnership, protect yourself by formalizing everything in a loan document. If you’re investing in a sole proprietorship, keep the personal funds in a separate account.

In all cases, keep track of where the money is going and protect your personal finances by treating the investment as you would any other loan. If you have questions or concerns about investing personal funds in your business, or if you need assistance in formalizing the investment through legal documentation, seek the counsel of an experienced business attorney.

BoltNagi is an established and respected small business law firm serving clients throughout the U.S. Virgin Islands.