Family

Strings Attached?

What to consider before investing with friends and family

Many startup founders may turn to friends and family as a first source of funds when they are getting off the ground. If considering whether to accept funds from, or invest in, the business ventures of friends and family, it is important to consider the tough questions upfront. Money is a taboo topic, and wherever close relationships are concerned, it has the potential to create uncomfortable situations. To avoid unnecessary tensions, here are several things to consider before forming a financial partnership with someone you're close to.

ACCEPTING A CHECK FROM FRIENDS AND FAMILY

If you are starting a business and looking for early funding, you may first look to your loved ones and close friends. It is comforting to be supported by people who you trust and who may have more patience when it comes to business results and financial returns. However, with added emotions at play, a failed venture can have repercussions that are far more complex than those tied to a professional outside investor.

Before accepting a check from a friend or family member, consider the following:

It can be too easy
When you turn to outside investors for funding, you can expect every aspect of your business plan to be challenged. This might sound like a pain, but it can also help you refine your business model to improve your chances for success. When someone writes a check simply because they want to help you or feel compelled to because of family ties, you may lack the same level of scrutiny.

Professionals offer more than money
Venture firms and small business incubators are professionals who have learned what to avoid and where to focus and thus are often able to provide invaluable business connections. If your investor lacks an entrepreneurial or investment background, you may miss out on the incremental value of expertise beyond capital.

There can be tax considerations
A relative may decide to give you money to start a business in the form of a gift, a loan, or an investment. Each approach may involve different tax consequences depending on the terms of the agreement. Seek out advice from a tax professional to help ensure you are considering all implications and have the proper documentation in place.

It can cause friction in the family
If your parent or other family member makes a sizeable investment in your company and it doesn't work out, it may reduce the size of their estate, or their ability to help other family members financially, causing tensions. Another source of potential friction is that as a shareholder, a family member may now have a say in how the venture is run. This should be discussed and agreed upon in advance.

OFFERING A CHECK TO FRIENDS OR FAMILY

If you are thinking about making an investment in a friend's business, be honest with yourself and with your friend. Are you making an investment in which you fully expect a return? You have to be prepared for the reality that their decisions about how to spend the money may not always agree with you. By adopting a mindset that accepts this from the start, you can maintain a healthier relationship.

Glenn Kurlander,
Managing Director, Morgan Stanley Wealth Management

Before offering a check to a friend or family member, consider the following:

Good ideas do not equal good execution
Believing in a business concept is one thing; having confidence in the individual's ability to deliver on that idea is another. Make sure to dig into the nitty gritty around how the company plans to get from Point A to Point B and more importantly, what (if any) backup plans he or she has in the event that things don't play out as hoped.

Quality investors offer more than a checkbook
The best investors can share experience and guidance in addition to a check. As a potential investor, ask yourself what you can offer the founding team beyond cash (such as access to your network). Are you looking to take a more hands-on approach to supporting the company, or do you prefer to remain a passive investor?

Nothing is certain
Just like in life, a startup's journey can involve many detours. Some new businesses may require several rounds of additional investment in order to keep the doors open; while others may pivot from their original idea and use your funds to tackle an entirely different opportunity. What expectations do you have in regards to the financial return? If the company fails, will your relationship with the family member or friend suffer? Consider the worst case scenario and how it will affect your finances as well as your relationship before writing a check.

Morgan Stanley Smith Barney LLC ("Morgan Stanley"), its affiliates and Morgan Stanley Financial Advisors and Private Wealth Advisors do not provide tax or legal advice. Clients should consult their tax advisor for matters involving taxation and tax planning and their attorney for matters involving trust and estate planning and other legal matters.

For more helpful resources including tips and insights on navigating the many milestones of adulthood, please ask your Financial Advisor.

© 2018 Morgan Stanley Smith Barney LLC. Member SIPC.

CRC 2025926 02/2018

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