The landscape of retirement investment options can be an overwhelming one for even the most educated and savvy among us. 

And these options are only increasing.  One of the latest retirement investments people are considering is startup companies.  When we look at the meteoric rise of many businesses that were once just tiny startups, it’s easy to see why some want to put their money behind ideas and people that have the potential to earn big. 

But as is true with almost any investment opportunity, there are both pros and cons to this option and you should know both before committing your hard-earned retirement savings.

If you’re puzzled by why someone might choose to use their retirement savings to fund a startup, read on to find out why it may actually be a sensible thing to do.

How Risk-Averse Are You?

Using a nest egg to fund a business usually depends more on the person than on the funds involved. It’s not a question of how much, but rather the stage of life you’re in and how willing and able you are to take a risk with your savings. If you are a middle-aged worker with deep pockets, for example, you may be more willing to take a leap for a potentially greater payoff because you’d have more time to recover from a potential loss than someone on the eve of their retirement would.

It’s important to keep in mind that using the money to seed a new venture could also come with certain tax benefits.

The Pros of Investing in a Startup

1. It’s Easier

There are a number of ways the government and regulators have made it easier for you to use your retirement savings for investments. For example, the authorities let you structure your retirement using ROBS (Rollover as Business Start-ups) arrangements that can minimize taxes. The government also lets you take a loan from your 401k or take a taxable distribution from your IRA to buy stakes in businesses.

The purpose of many of these plans is to ensure your money is used responsibly, and an investment is usually a responsible use of cash. So getting your plan rolled into a business or borrowing from it to use as an angel investor should be relatively easy. You could ask your accountant to help you with the details, but most of it is pretty straightforward.

2. It’s Smart

Taking money straight out of your savings to fund a startup may seem a bit scary, but it is actually one of the best options you have to maximize returns and minimize taxes, assuming you are okay with the risk that’s inherent in investing in new ventures with an uncertain future.

If you’re considering pursuing such an investment, you’re already well aware that the returns could be huge, so it’s just about determining whether or not you’re ready to jump into something that requires a bit more involvement and know-how than the more traditional retirement investments.  The point is, it’s smart investing if you know what you are doing.

3.  No Interest or Taxes

IRA or 401k plans may also come in handy if you want to borrow money from them. The money you get can be used tax-free and with absolutely no penalties. You don’t need to repay it into the account since the money is considered an investment in a business.

However, you should keep in mind that borrowing from your pre-existing retirement funds is very risky, especially if this is your primary or only retirement savings.  The downsides of such a risk would likely outweigh the benefits if you don’t have other significant investments that are left untouched.

The Cons of Investing in a Startup

1.  It’s not Foolproof

Although using retirement funds to start a business can be simple and beneficial, it’s definitely not foolproof. You should avoid investing the entirety or even the majority of your savings into a startup business – be sure that you have enough squirreled away in a more stable investment in case the business doesn’t succeed as well as promised.

If possible, consult with a few experts such as accountants, attorneys and even business consultants to get a better picture of how much you should put forth and what kinds of terms you should require from the company you’re investing in.

2. It Depends on the Success of One Business

Four out of every five new business fail within the first five years.  Sure, some startup businesses experience wild success and become the next big thing, but that’s the exception rather than the rule.  When you throw your lot in with theirs, you’re putting your faith in a few individual people to do well.  While other retirement investments can fail, few of them rely so heavily on so little - they are baskets, while the startup is one egg.

So, before you even consider investing in one company, you had better do your homework and really put the company’s leader’s run through the paces to prove the viability of their idea.  You should see a business plan, evidence of predicted profits and anything else that will communicate to you that your hard-earned money will be put to good use.

Investing your retirement savings in a startup business is certainly not for everyone.  For some, this would be a very ill-advised decision indeed. 

But if you have enough time and money to play with, it could prove to be an amazing opportunity to not only collect huge returns, but to be involved in a successful company you’ll be proud to say you helped launch.