Pre-Funding Your Business Exit with Excess Cash

Many business owners dedicate their working lives to turning their vision into a profitable enterprise with the expectation it will become the ultimate source of their wealth. When they’re ready to hang up their boots, they can simply sell the business and walk off into the sunset. However, it rarely works out that way. Business owners relying on the sale of their business to fund their retirement instead of a separately funded retirement plan are likely to come up short.

Preparing a business for sale is a long and sometimes arduous process that requires a well-conceived exit strategy. Business owners who sell their businesses without an exit strategy are often disappointed in the outcome. That’s because they haven’t thought through critical aspects of their exit, such as the right timing, having a plan for maximizing the value of their business, having a plan for ensuring the business’s continuity, or a plan to provide their own financial security.

Selling Your Business Isn’t the Only Retirement Strategy

Rather than relying solely on a business sale that may or may not happen, at least in the way you envisioned, it would be essential to take control of your destiny by building up your retirement assets. The good news is that, as your business matures, you can begin to extract more value from it by increasing your salary or paying yourself bonuses.

The worst case with that thinking is that by the time you’re ready to walk away, you run the business dry and liquidate any assets. The best case is, as you prepare for your exit, someone comes along with the right offer and fattens your retirement account. Either way, you can walk away on your own terms, knowing that your retirement is secure.

A third alternative is you groom a successor to run the business after your exit to keep it going in the hope that a buyer will eventually come along. You can loan yourself out as a consultant to the business to assist your successor in maximizing its value for a future sale.

Retirement Plan Options

For any of those scenarios to work, you must create a plan to accumulate retirement capital. If you’re behind the savings curve because you’ve focused on investing in your business, you have several options that will enable you to catch up.

Safe Harbor 401k Plan: The maximum contribution to a safe harbor 401k plan is $27,000 for business owners over 50 ($20,500 for younger owners). The plan allows small businesses to weight their contributions more heavily toward business owners and highly compensated employees.

Age-based Profit-Sharing Plan: Business owners may contribute up to 25% of net profits up to $67,500 for those age 50 and over ($61,000 for younger owners). Age-based profit-sharing plans are ideal for businesses where the owner is significantly older than other employers because they can be weighted heavily toward the owner while not discriminating against younger employees.

Simplified Employee Pension (SEP) Plan: The maximum contribution for a SEP plan is the same as the age-based profit-sharing plan, but it is easier to set up and administer. The other difference is that whatever percentage of profits you apply to yourself, you must apply an equal amount to all eligible employees.

Taxable Brokerage Account: The advantage of these employer-sponsored plans is they allow maximum retirement plan contributions on a before-tax basis. But you’re not limited to employer-sponsored plans to build your retirement assets. If you have excess cash after making maximum retirement plan contributions, you can invest inside a taxable brokerage account. The advantage of a brokerage account is you’re not limited by how much you can invest or how to invest it. In addition, when using appreciated securities to fund retirement expenses, they are taxed at the more favorable capital gains tax rate.

Although it may not be the exit plan you envisioned when you started your business, it can serve the purpose of being able to leave the business at a time of your choosing, regardless of whether you sell the business or get the terms you want. You only get one shot at making this exit plan work, and your most valuable asset in the beginning is time.

Read other Business situation analysis articles