Here’s an interesting juxtaposition: According to the 2022 MassMutual Business Owner Perspectives Study, the top goal for business owners upon exiting their business is to maintain their current standard of living in retirement; yet, transitioning ownership when the business owner is ready to retire is ranked last in terms of importance and priority.
What might be the explanation for this? It could be because:
- Nearly half of the business owners we surveyed either plan to work in their business beyond 10 years from now or they have no idea when they plan to retire.
- Two-thirds are waiting for the right buyer to come along.
- Most say it will be an almost even split between funding retirement with both the business and the assets outside the business.
But here’s the reality: Less than half of the business owners we surveyed believe they are on track with where they want to be with their retirement savings. In fact, 65 percent have less than $500,000 saved in their retirement accounts. That means business owners are underestimating their financial reliance on the business postretirement.
When this is coupled with the fact that only half of our respondents have obtained a business valuation, identified their future income needs, and chosen an exit strategy that will maximize their future income, you can see how retirement planning is a potential blind spot for today’s business owners. (Business valuation calculator)
Owners who say “the business is my retirement” need to be certain of a few things.
- First, if the plan is to sell the business to a third party, be sure that you’ve built a transferable business that can be sold to a ready, willing, and able buyer.
- Second, if the plan is to transfer the business to the next generation, be certain that the children are willing and able to buy you out or keep you on the payroll even when your contributions to the business diminish.
- Third, if the business is sold to someone who can’t pay the full value upfront, like a family member or key employee, be sure those individuals are equipped to run the business successfully so the terms of the installment sale are satisfied until the acquisition is completed.
If the business is the owner’s retirement, there will be negative consequences if one of these three outcomes fail to happen. It could mean retiring later than expected (or not at all), being forced to reenter the business after retirement (perhaps in an effort to rescue the business), or accepting a lower standard of living.
Exit strategy is tied to financial dependence
A lack of financial independence is often why a business owner never truly leaves the business. To put in context how a business owner’s lack of adequate retirement income planning can impact his or her exit from the business, consider the following “Business Owner Hierarchy of Involvement.”
- Exit with no ties.
- Act as a silent partner.
- Exit, but still earn a consulting fee.
- Stay active indefinitely.
Business owners who exit with no ties allow the next generation of leadership to take over with full autonomy because the outgoing owner is ready to do something else and is not reliant on the business financially. This is often best for everyone. Oddly enough, only 34 percent of business owners say their top exit goal is to be able to leave the business with no ties, financial or otherwise.
Business owners who act as silent partners gradually phase out of the business by staying involved for a predetermined period of time (typically 3-5 years), serving in a mentorship role. In return, they are compensated reasonably for the continued value they bring and the seamless transition they are helping to facilitate. This can be a good way for the owner to stay involved and is a common strategy when you consider that 62 percent are concerned about missing their role as an owner when they leave.
Business owners earning a consulting fee have transferred the business on paper, but due to a continued financial reliance on the business, never truly let go. They continue to receive income from the business in perpetuity, with the compensation tied more to their financial needs in retirement rather than to the value they are bringing to the business. This is common in family-owned businesses in particular — and the 43 percent who think they will exit earning less than they ever imagined.
Finally, when a business owner stays active indefinitely, there is no plan in place for ownership to change hands. This implies that the current ownership team will run the business until their death, regardless of potential buyers or the next generation’s interest in taking over. This can be fraught with potential issues for the business’s survival and the relationships within the family. Another troublesome statistic is that only 26 percent of business owners say avoiding familial conflicts is a top goal upon exit.
More important than when business owners will retire is how business owners will fund that retirement when the time comes. The business is no doubt your largest asset and generator of income. When the focus is on maximizing the value of the business, growing assets outside the business, and choosing an exit option that will allow you to fully monetize the business, the income can be there not just for today, but also into the future.
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