Retirement and Business Exit Planning

Jason Dickerson |

One of the biggest mistakes business owners make is failing to integrate their business exit planning and their personal retirement planning. Rather than tackle the two components as a single holistic project, many owners of closely held businesses often treat the two as separate. But when you consider that around 50% to 80% of business owners’ wealth is tied to their business, not factoring this into the personal financial picture can result in costly mistakes and missed opportunities.

Planners need to guide clients to evaluate the potential financial benefits of taking a more integrated approach. A key to this process is the role that proactive business valuation and valuation enhancement can play in creating better financial outcomes.

Better Exit Strategies

For many business owners, retirement planning will require an exit strategy. But, while most owners may be great at running their businesses day to day, they often don’t begin planning a proper exit strategy until it’s too late. The type and scope of the business will always dictate which type of planning is most advisable. But starting earlier and planning appropriately puts owners in a much more advantageous position to maximize their overall wealth and, hence, their financial security in retirement.

The very sudden and severe impact of COVID-19 on retirement plans underscores the importance of planning generally and backup plans. Those who have a plan in place that’s evaluated with trusted advisors at regular intervals will be better able to weather unforeseen challenges and recover more resiliently in the long run.

Exit Planning Gone Wrong

To understand what’s at stake, it helps to look at an example of business exit planning gone wrong.

Example: The client hired a business broker and signed a contract for the business broker to sell the business. The client’s business was worth about $20 million, and the estate, inclusive of the business, was worth over $30 million. A letter of intent was sent to the client. The client then contacted her financial advisor. By not contacting the financial advisor before hiring the business broker, the client lost valuable planning opportunities. The client should have addressed her estate and tax planning first to take advantage of strategies designed to reduce her estate tax exposure and perhaps save significant state income tax on the sale. These can include transferring the business out of the client’s name and into a completed gift non-grantor trust formed in a state that won’t tax the trust (for example, Delaware, Alaska, Nevada or South Dakota). By shifting the business out of her estate before the broker was retained and the letter of intent received, the client may have been able to support a lower valuation to achieve better estate planning goals. Shifting the business to a non-grantor trust formed in a trust-friendly state might help to avoid state income tax in the client’s home state on the sale. While that might still be possible, the further down the continuum toward sale the client has traveled, the more difficult it can become to deflect a challenge by state income tax auditors that the business was in fact sold after title was transferred to the trust. Without addressing key estate and tax planning issues first, it’s harder to market the business in the most advantageous way. Furthermore, because she hired a broker to sell her company, she was dealing with someone who looks at the sale only from the perspective of maximizing sale proceeds. While that may be the most critical goal, it’s rarely the only one. Finally, with earlier planning and better guidance, the client might have had time to enhance the value of the company before selling it.

Long-Term Process

To succeed at exit planning, it’s best for clients to think of it as a broader and longer-term journey, rather than a narrow process of merely selling a business. Before a client is set to retire,  she should consult with advisors to help her create an effective, holistic plan. It’s important to have a broad perspective that looks at not just traditional estate and financial planning but also the integration of all the business issues that affect the plan. When done optimally, the process can take one to four years to cover all pertinent matters.

The “Value” of Valuation 

Valuation occurs at several points in time on the planning continuum. The first might be a valuation used for gift and estate tax planning purposes. The lower that value, the better the tax planning result, but value has to be consistent with the value that might be used when the business is marketed and eventually sold.

One of the cornerstones of any smart exit strategy is understanding the potential sale value of the business within its unique industry as that business is prepared for sale. If the client’s goal is getting the highest possible price, then it’s critical to have the right team in place not only to provide a valuation but also to evaluate the company. The team should include advisors who understand not only the nuances of business valuation but also how valuation enhancement can help maximize the economic return. In the example above, had the owner received earlier and better guidance, she likely wouldn’t have even been dealing with a broker at such an early stage of her exit planning journey. Rather, she would have spent more time up front creating an estate and income tax plan as well as evaluating the business exist strategy strategically. Then she would have addressed both timing and deploying strategies to enhance the business value, after the tax planning was completed, but before selling.

We can help you reach your desired retirement goals. Call us today for your personal consultation to explore options.