Secure Your Future Income, and the Lifestyle You Desire
By Michael Trabert, Partner, Advisory Services
If you’ve read our preceding four blogs on The Five Stages of Value Maturity, then you know how the first four stages unfold:
- Identify Value – identify the true value of your business, then measure that against your post-ownership income needs, quantify a potential gap, and work with your team on strategies to narrow or eliminate the gap.
- Protect Value – proactively address existing issues of risk as best you can, and work to identify and understand potential risks in the near and long term.
- Build Value – act in concert with your team on the strategies you devise to build business value – particularly intangible value – in order to increase the company’s multiple and enhance its attractiveness as a purchase target.
- Harvest Value – chose the specific option by which you can transition your business, position it the way you see fit and harvest your desired value.
This brings us to Stage Five of the Five Stages of Value Maturity: Manage Value. Admittedly, this is a bit of a misnomer; a more appropriate title would be Preparing to Manage Value, for even though it’s the fifth of five stages, you as a business owner should be preparing to manage value throughout your entire value maturity process.
What exactly is being managed? The value of your business, certainly; but the primary goal in Stage Five is to focus on management of your personal financial matters as well. Intrinsic to this are key estate planning and financial planning tasks, which are included in the checklist below:
- Review estate documents and update as needed:
- Revocable trust (i.e., A/B trust structure, including family trust and marital trust)
- Financial power of attorney
- Health care power of attorney
- Living will
- Review insurance policies:
- Determine appropriate coverage amounts for both life and disability insurance
- Beneficiary designations – verify that these are in sync with estate documents
- Review policy earnings performance for permanent policies
- Review all retirement account / pension beneficiary designations – verify that these are in sync with estate documents
- Retitle assets to avoid probate and maximize the use of estate exemptions
- Assets passing through probate are public record
- Avoiding probate helps to limit professional fees during the estate administration process
- Develop a detailed budget, including current cash inflows and outflows
- Prepare a personal net worth statement that reflects all assets and liabilities
- Develop an investment policy statement
- Undertake a global investment asset allocation review with your financial advisor. Include as part of this a long-term growth / long-term cash flow analysis
- Determine your investment allocation targets and who will provide global portfolio oversight
While this may seem like a straightforward list to tackle, it is a time-consuming and thought-provoking process to work through the list and put your financial house in order.
Estate documents are easy enough to understand and work with an attorney on to update. But recognize that there is a tremendous amount of flexibility available in drafting will and trust documents. Important things to consider include:
- Who should handle the role of executor / trustee once you and your spouse are gone?
- Who should have custody of any children who are minors?
- Who should make decisions about health care for you and your spouse when you are no longer able?
- If you are married, how should assets be held for your spouse after the first death? Is an outright distribution from the estate preferable, or should the assets stay in trust?
- How do you want your heirs to receive their inheritance? Options include:
- Assets paid out directly to them at the second death
- Assets paid out incrementally over time, half at age 35 and have at age 45, for example
- Assets held in trust for their lifetimes with access to income and principal
- If the children will be taking over the business, this adds another layer of complexity in planning the transition
- Are there any charitable goals that you want to build into the estate plan?
One other potentially important topic that we haven’t touched on above is estate taxes. If you are likely to be subject to the estate tax, it is a very important topic to consider, given the applicable 40 percent tax rate. Under the current tax law, each person can pass $5,490,000 to their heirs before the estate tax applies, or $10,980,000 for a married couple. If your assets plus any life insurance proceeds are likely to exceed this amount, there are a number of strategies available to you in order to minimize the estate tax. Note that it is an iterative process that you will need to work on over time, and the earlier you start the process, the better the results.
The most common question we hear from business owners as they embark on building a financial plan is: If I sell, will I have enough money to live the way I want? With interest rates at historically depressed levels, in most cases it isn’t as easy as parking the sale proceeds in treasury bonds and living off of the interest. Relying on your investments to replace the income from your business can be an unnerving thought, given the uncertainty inherent in financial markets.
One of the primary goals in completing the financial planning checklist items above is to develop a good understanding of your long-term spending needs in retirement, and based on that, determine the minimum selling price for your business to fund those needs. The selling price would factor in your risk tolerance and a post-sale asset allocation that will allow you to sleep comfortably at night. Developing this financial model and knowing your minimum sale price while you prepare to sell the business puts you in the best possible position to determine when you’re ready to sell, and also to field unsolicited offers. As with estate planning, this process will take some time. Finding someone you trust to develop the model and oversee the global asset allocation is the key to this endeavor.
Develop a plan for life after business transition
This is the most neglected step of the process because it’s difficult to put a structure around it. Many business owners quickly become bored with their day-to-day routine and regret selling their business after the fact. The key is to answer the question: What does happiness look like for me after I exit? You can then build out a game plan to achieve that happiness. Developing a schedule to manage your time and provide structure to your daily life can also be important. Some options for post-sale activities might include:
- Buying or starting another business
- Business consulting or board of directors service
- Community involvement / charitable endeavors
Throughout the Five Stages of Value Maturity, you should revisit your estate planning documents every three to five years in order to update and adjust them as needed. Additionally, you should revisit them when a “life event” occurs (e.g., marriage, divorce, birth or death). Estate tax planning and financial planning are much more iterative processes and will require your involvement on a continual basis. And lastly, don’t neglect to develop a plan for your life after exiting the business.