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Many business owners only focus on the here and now. But retirement and estate planning allow you to create an exit plan that provides short- and long-term benefits.

Preparing for transition

Use Retirement Planning to Begin Creating an Exit From Your Business

  • Jeff Daye
  • Julie Kiley
  • 9/21/2020

Key insights

  • It is never too late to focus on an exit plan from your business.
  • Accumulate wealth in your personal retirement plan to save for the next phase of life and to shelter against personal or business bankruptcy.
  • A proper estate plan allows you to get your affairs in order for the protection and welfare of you, your family, and your business not just at passing but during your lifetime.

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Business owners often focus on day-to-day operations and growth as they review business life cycles. While these are critical considerations, a focus on these items alone can often leave you without an exit plan, or a path away from the business and into the next phase of your life. Give equal attention to your retirement and estate planning to prepare yourself for the future. 

Contribute to your retirement plan

If you haven’t saved in a retirement plan, consider creating a plan and maximizing contributions. Not only can a retirement account offer a break on present or future taxation, but it may allow you to shelter assets from creditors (via Patterson v Shumate, 504 U.S. 753 (1992)).

Business owners often tell us that making regular contributions to a retirement plan is one of the best decisions they made. Compounding is a powerful tool over time — so strong that a quotation often attributed to Albert Einstein notes that compound interest is the “eighth wonder of the world.” A well-funded retirement account can help bridge the gap between the amount you need to retire and the after-tax proceeds from selling your business.

Regardless of your situation, personal financial planning can provide much needed clarity on the timing and value needed for a business sale. While it’s ideal to begin these conversations seven to ten years prior to an exit, it’s never too late to develop a plan by working with your business, legal, tax, and financial advisors.

The three phases for investors

The line graph below represents the wealth over time for the average person. During the accumulation phase, reinvest in the business and develop a business plan to lay the groundwork for an eventual business transition. Fund your retirement plan and/or individual retirement account (IRA) and invest the account balance in accordance with a carefully constructed financial plan.

As you get to the apex of the curve and transition to the spend phase, continue to manage your wealth to provide cash flow needed to fund your retirement and lifestyle goals while preserving your capital. Some business owners choose to finance the sale of their business in order to facilitate the sale and create an income stream for retirement, subject to the solvency of the buyer. Note that the agreed-upon interest rate may be eclipsed by the rate of return that you may experience from a properly allocated investment portfolio — with possibly less risk exposure.

The distribution phase focuses on capital preservation and income generation for retirement and legacy goals. This phase is crucial for business owners who have chosen to fund the financing of their business sale or are selling to other family members.

Tax considerations

While we always recommend that you take advantage of the tax savings and retirement planning opportunities provided by tax-deferred plans, we also understand that you may be closer to retirement and plan on using your business as part of your retirement plan. Consider implementing these action items if you plan to transition out of the business:

  • Create a management succession plan to increase the likelihood of a seamless transition.
  • Consider the extent to which you would like to remain involved in the business following a transfer of ownership. For example, some owners serve as a consultant or employee following a business sale which provides a predictable income stream for the first few years post-sale.
  • Determine how to structure the transition of ownership (e.g., a sale of the business to a family member, key employee, or an unrelated third party) and consider the tax consequences of the sale. A business transition event may generate significant taxable gains, but advanced planning can help reduce those gains.

If you plan to sell your business, be aware that a liquidation or business transition event may generate significant taxable gains. Consult your tax advisor before contracting for sale so they can advise on the structure of the deal and project the tax impact. Even if there is limited flexibility to change the transaction structure, there may be other planning opportunities to defer or reduce taxes.  For example, you may have unrealized capital losses that can be harvested to shelter some of the gain from sale. Also, there may be new tax savings opportunities.

Another example includes a provision of the Tax Cuts and Jobs Act— called Opportunity Zones — that allows for the deferral of some capital gains until a future year while receiving, under certain specific conditions, future forgiveness or exclusion of capital gain generated in the investment itself. As with any investment, there are risks to consider along with the potential tax benefits.

Prepare further with estate planning

It is never too late — or too early — to begin planning for retirement, and the same is true for estate planning. This is a relevant topic for everyone, and estate planning is often done in conjunction with retirement and transition planning.

Estate planning allows you to get your affairs in order for the protection and welfare of you, your family, and your business. Generally, business owners with higher net worth and more complex asset holdings benefit from more advanced estate planning, but there may be circumstances where basic estate planning documents are appropriate for you.

If you have estate tax exposure, estate planning can also result in significantly more wealth for your heirs in the form of estate tax savings. The earlier you start planning, the better. And for those below exclusion limits, estate planning may still result in income tax savings or even cost savings associated with death. Regardless of circumstances, it is always best to have have planning documents in place.

How we can help

To successfully navigate the three phases of investing takes meticulous planning. At CLA, we understand that each business owner has a singular vision for their future, and our team’s goal is to help you achieve yours.

Contact Us

  • Jeff Daye
  • Senior Wealth Advisor
  • CliftonLarsonAllen Wealth Advisors, LLC
  • Julie Kiley
  • Principal