That money in your 401(k) retirement account can look very appealing when you're trying to finance your new startup. There's a balance in there, it's already your money, and you feel like it's the quickest way to get your business off the ground.
Using her 401(k) account was a successful move for Abbey Branch, founder and creator of the Abbey Branch line of trendy handbags that meld fashion, art and architecture. While working as a sales rep for a wall-covering manufacturer, she decided to start her own company. To launch her brand, she felt she needed a substantial amount of startup capital. She already had a prototype and a few interested investors, says Branch, 32, "but I had this gut feeling that with that would come unrealistic expectations." After some soul-searching, she decided she could make back any money she took from her $55,000 401(k), so she used the entire amount and paid $10,000 in penalties. The cash infusion helped her start manufacturing and build her website in 2003 from her Spring, Texas, locale.
The penalty fees for early withdrawal from a 401(k) account can be steep, so entrepreneurs need to think long and hard about the pros and cons of this financing choice, says Jordan E. Goodman, founder of MoneyAnswers.com and author of the Everyone's Money Book series. If you've left your job and you've got a 401(k) balance, you can roll it into a rollover IRA and take out the balance, says Goodman, but you'll have a 10 percent penalty (if it's before age 59 and a half), and you'll have to pay federal and state income taxes. If you're still at your job, you can borrow up to $50,000 against your 401(k) and set up a payment schedule from your paycheck--though if you leave your job, voluntarily or involuntarily, you'll have to pay all the money back in 60 days or face penalties. "Be sure that this entrepreneurial opportunity is going to work for you," says Goodman. "Because if it blows up, you've still got to pay the loan back, and you've hurt your retirement."
Luckily, Branch was able to pay her money back within her first year. Her startup cash infusion enabled her to roll out her handbag line and get it noticed by big names like Victoria Beckham, Courteney Cox and Nicky Hilton, to name a few. Branch projects 2005 sales to hit $500,000.