Presented by Bill Black_ CLU_ ChFC President_ Exit _ Retirement by sofiaie


									                 204   Critical Keys to Financial Planning for Business Owners
                            Presented by: Bill Black, CLU, ChFC
                       President, Exit & Retirement Strategies, Inc.
                               Irvine, CA and Denver, CO

Program Objective: Discuss specific financial planning areas that are important to
Privately-Held Business Owners. Point out areas that are often overlooked by Financial
Planning Professionals who may not work regularly with Business Owners.

Market trends:
   •   Over 50% of today’s 9.5 million business owners are age 50 or older - AARP
   •   At any given time approximately 40% of U.S. Businesses are facing the transfer
       of business issue. The primary reason for failure is lack of planning. - U.S. Small
       Business Administration
   •   U.S. families have over $7.5 trillion tied up in private businesses – The Federal
       As I have met with hundreds of business owners over the last twenty plus years, I
have repeatedly heard 4 comments:

       1. The owner is too busy putting out fires and there is not enough time to pay
           attention to future planning and the details of succession, exit or transition
       2. The owner has advisors but often feel that the advisors are so busy with their
           clients or working on specific “emergency projects” that they don’t have time
           to help the owner proactively plan for the future; and
       3. They seem to spend a lot of money on insurance, employee benefits, and other
           things that benefit the employees of the company but are not sure that those
           plans are coordinated or that they are getting the best value for their dollar.
       4. They seem to be busier than ever. They just want to transition from
           “Overtime” to “Part-time”.

       Another common complaint from business owners is that their financial planning
advisors, whether they be a CFP, a CPA, or other planning advisor, does not seem to
understand the nuances of being a business owner. In other words, the planner seems to
talk to the employer as if they’re just another employee, offering suggestions such as put
more money into the 401(k) plan and diversify your assets outside of the business instead
of helping the business owner to achieve what they really want which is financial
freedom from the eventual sale of the business (or a very high-paying, very part-time job
as they transition to absentee ownership).

       Most planners fail to acknowledge that the business owner has “body parts” in the
business and that it represents a lifetime of sacrifice and dedication. They are constantly
being forced to share with employees who are ungrateful and unthankful, with the
government who is demanding an ever-increasing share to pay for benefit programs but
will probably pay little back to employees, and to insurance companies who seem to
continuously ask for more and more from the business owner to protect employees’
welfare benefits.

       The purpose of this talk is to outline some of the higher levels of planning that
business owners need to pay attention to. I intend to focus on not so much what planners
have been telling business owners, but what business owners need to know about as they
begin to think about their eventual transition out of the business, whether by sale or by
management shifts.

       Planning Area #1. Analyze the various ways to get money into a Qualified
Retirement Plan for the Business Owner. Typically we come into situations where a
business owner is not able to put much into a 401(k) plan. Of course, general employees
earning under $100,000 can put a large percentage of their pay (up to 100% not to exceed
$15,500 in 2007, unless they’re over age 50 in which case they can contribute $20,500).
But the business owner and other highly paid employees of the company are often
restricted as to how much they can put in due to the 401(k) plan Average Deferral
Percentage and Average Contribution Percentage tests. If the business owners do not
want to be restricted by these tests, they have to share an immediately vested match with
employees of the first 4% of their pay. Talk about a government mandated wage
increase! It is not uncommon for us to test out the overall costs of the “match” for these
types of arrangements and find that the business owner gets less than half of the
contribution himself, in which case it is typically a better idea for the business owner to
continue to grow their business by reinvesting in the business, or take an after-tax
distribution, pay their 40% tax and end up with 60 cent dollars. However, sometimes the
stars line up, and the owner can put quite a bit of money into a plan with less costs going
to employees that the government would take in taxes. You usually never know until the
plan is tested, but many business owners have not had the tests run in years and could
very well have put away hundreds of thousands of dollars into their Qualified Plan.
       Planning Area #2. Make sure there is a written succession plan and test it every
few years! Business owners need to think of their buy-sell agreement like a business
Will. The business is typically the largest asset of the business owner. Yet most business
owners tend not to have written business continuation instructions in the form of a buy-
sell agreement (if two or more shareholders) or a written business continuation
instructions in the event of a sole shareholder situation. This is horrible lack of planning
that has turned many profitable well-run operating businesses and forced them to close
the doors in the event the business owner dies without having communicated their
wishes. Even when a Buy Sell or Instructions exist, the formulas and provisions of such
documents are often out of sync with the changes that have occurred in the business.
Many times the document is silent on certain types of triggering events (such as disability
of a shareholder) and could lead to very devastating results if the worst case scenario

       Planning Area #3. Life Insurance analysis. Nobody likes life insurance, but
everyone likes cash, especially if a devastating event has just occurred, like the death of
an owner or key employee. Life insurance policies provide cash at that moment, and the
cash can be used to:
   •   Pay the high cost of a headhunter to find a quality replacement employee and lure
       the employee in with a “signing bonus”;
   •   Pay down or pay off bank debt and prevent loans from being called;
   •   Fund the provisions of a Buy-Sell agreement or Salary Continuation plan and thus
       protect families that may have been otherwise financially ruined by the death of a
   •   Provide funds for a “stay bonus” program to retain key employees until the
       company recovers from the event.
   With the cost of term life insurance having decreased close to 40% in the last five to
   ten years and the availability of cheap capital in a contingency event like the death of
   a shareholder, I don’t understand why more business owners have not taken steps to
   protect themselves, their families and their partners. And if they have current policies,
   they should be taken out of the bottom drawer every few years and evaluated for
   efficiency give the recent round of policy expense reductions.

       Planning Area #4. Analyze and project capital needs at retirement to provide
desired income. Business owners need to understand what it will ultimately take in cash
to provide the income they will need at retirement, and then set about implementing
strategies to provide the cash flow at retirement. Most owners tend to think short term
about such matters as cash flow, and tend not to focus on the long range planning that is
needed to develop a cash flow scenario. For instance, an owner can use business profits
to purchase “business usable” assets such as the business property and equipment to set
up retirement cash flows. He could also set up arrangements to pre-pay future expenses
and reduce the amount of after-tax income he will need at retirement. Examples include
'paid up' life insurance, paid-up long term care insurance and establishing a Welfare
Benefit Trust to pay for uninsured medical expenses The owner should also contemplate
setting up arrangements to provide for post retirement income from the business such as
unfunded deferred compensation plans, and royalties from trademarked or patented
processes or procedures.

       Planning Area #5. Valuation awareness. Since the business is typically the
largest asset of most business owners, and will ultimately be the asset that is sold to
produce the capital needed to provide the owner’s financial security, it would follow that
most business owners should be keenly aware of the value of their business and have a
clear understanding of how they will be able to sell the business for maximum value,
right? Wrong! Most business owners have not got a clue as to how their business will be
values or the methods of valuing a business. Most owners do not realize that there are
multiple potential valuation methods that can be employed to value their business at any
given time (based on the reason for the valuation and the perspectives of the buyers). And
most business owners do not understand what it means to “run a business as if it is for
sale” (as opposed to “up for sale”). Why? Probably because most businesses are run to
support the owner’s lifestyle, and the biggest enemy is taxes (Payroll, Federal & State).
Business owners need to be counseled that, depending on the Transfer Method that they
ultimately choose to sell their business (Liquidation, Outsider Sale, Strategic Sale,
Controlled Auction, Management Buy-out, ESOP, etc.), their business will be valued in a
certain way. There will be a tax imposed on the sale in some way. And the new owners
will ultimately support the sale with the business cash flow. So it makes sense to explore
methods to reduce the taxes and cash flow drain of the sale and maximize the after-tax
value that ultimately hits the owner’s pocket. And that takes planning well in advance of
a sale event.

       Planning Area #6. Recruiting, Rewarding and Retaining key personnel is the
pathway to leveraging business growth and allow for the owner to get back the time
freedom they all crave. Most business owners live for their businesses. But many are
tired. Years of overtime have taken their toll on the business owner’s enthusiasm. They
want to transition from Overtime to Part-time. At the same time, most owners pay their
Key Employees with a Salary and a Cash Bonus. In a sense, they are teaching the
employee all about their business, and then giving away their cash to potentially
empower and finance their competition. Most key employees think they want to be
owners (the E-Myth!). If the stars line up where they are ready to go out on their own,
they will do so – as soon as the next bonus is paid! We work with owners to help retrofit
their compensation structures so that employees have 3 boxes of pay:
   •   Today Cash (Salary and Bonus)
   •   Tomorrow Cash (Deferred and “locked up” with a Vesting Schedule)
   •   Contingency Cash (available in event of Retirement, Death or Disability)

The key to the “3 box” compensation method is to make sure the employee understands
what it takes to earn the Deferred Cash and make sure whatever measure it is tied to is
profitable for the owner as well. For instance, it could be tied to an increase in company
Revenues or Net Profits. It could be tied to an individual’s performance (particularly if in
sales) or a Division’s performance. It could be linked to the management of projects and
people. Whatever it is, the “KPI’s” (key performance indicators) need to be
communicated to the employees on a regular basis. We like to design programs with a
“continual vesting schedule”, where each annual contribution has a 3-5 year vesting
schedule, and the employee is always walking away from the last few years of
contributions. Then, as contribution amounts increase over the years, the employee is
very engaged and motivated to staying on with the business as the owner begins to enjoy
more time off. In many cases, the accrued balance can be used by the employee to make a
down payment to the owner for shares in the business.

       Planning Area #7: Play the course backwards! I’ve heard that when Pro golfers
(or their caddies) walk a course prior to playing it, they will many times look at the
course from the hole backwards to the tee box. The idea is that it is more important to
first understand how to finish and then develop a strategy to get there. Most business
owners do not have a tremendous amount of investment cash at their disposal while they
are growing a business. However, when a liquidity event happens, they all of a sudden
have numerous “new best friends” and they often are overwhelmed with the choices of
how to invest their new cash. Work with business owners to help them develop an
understanding of how to create investment program with large lump sums (received from
sale of the business). This is not necessarily risk capital! There is often an emphasis on
lifetime income strategies and tax minimization strategies. By helping them explore
strategies and options early on a planner will likely work with the owner in the area of
asset management for many years to come.

As Baby-Boomers begin to exit their businesses in staggering numbers, their will be a
premium placed on the owner’s advanced planning and preparation in the areas of
Succession, Exit and Transition . The above planning areas are meant to briefly
summarize some of the key strategic planning exercises that I believe will help the
planning practitioner to maximize their value to the business owner.

Bill Black, CLU, ChFC is the President and Founder of Exit & Retirement Strategies,
Inc., of Irvine, CA and Denver, CO. ERSI is a business consulting and financial services
firm that specializes in working with owners of closely held businesses to develop 3-10
year Succession, Exit & Transition plans. He is the current chairperson of the
PartnersFinancial Private Business Group, a national membership group of over 120
financial services firms that are dedicated to serving Private Business Owners. He can be
reached at

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