The Entrepreneur’s Roadmap to Retirement

Entrepreneur's Roadmap to Retirement

As an entrepreneur, you likely have a vision for your business. However, you may not have thought about your end goal. In other words, do you want to eventually exit your business and retire? If your answer is yes—or even maybe—you’ll want to ensure you’re financially prepared for your transition from business owner to retiree. In this comprehensive guide, we’re sharing the entrepreneur’s roadmap to retirement.

Entrepreneur’s Roadmap to Retirement Part One: Take Control Of Your Retirement Savings
When: As Soon As Possible

You may be planning to sell your business to fund your eventual retirement. However, depending on your expenses, lifestyle goals, and age when you retire, the proceeds may not be enough.

You can give your retirement savings a boost by contributing regularly to a qualified retirement account. In addition, these accounts often deliver significant tax savings leading up to retirement.

Step #1: Estimate How Much Money You’ll Need To Comfortably Retire

A common rule of thumb is you’ll need about 80 percent of your pre-retirement income for each year of retirement. Of course, you’ll want to build some flexibility into this calculation, especially if retirement is in the distant future.

You can also track your spending to figure out how much money you’ll need for retirement. This can give you a more precise estimate but also requires a little more effort.

Step #2: Use This Estimate To Calculate Your Monthly Contributions

If you think about saving for retirement as a bonus when you have extra free cash flow, chances are you’ll always find something else to do with that money. Instead, make saving for retirement non-negotiable by treating it like a fixed business expense. Once you calculate how much you’ll need to save each month, consider it a recurring expenditure and incorporate the amount into your pricing model.

Step #3: Contribute To A Tax-Advantaged Retirement Account

Even if you can’t max out your contributions right away, you can still benefit from the power of compounding within a tax-deferred account. If you don’t have a company-sponsored retirement plan, there are several types of qualified retirement accounts available to self-employed individuals.

Traditional IRA

Anyone with qualifying income can open a traditional IRA. The contribution limit for traditional IRAs is the lowest of these options at $6,000 a year in 2021, with an additional $1,000 catchup after age 50.

SEP IRA

A Simplified Employee Pension (SEP) IRA allows you to contribute 20% of your net income up to $58,000 in 2021. Since only employers can contribute to SEP IRAs—in this case, the employer is you—you can’t make catch-up contributions. However, you may be able to contribute an additional amount up to the current traditional IRA limit instead of funding a separate IRA. In other words, employer contributions and individual contributions are treated differently, even though both are coming from you.

Solo 401(K)

A Solo 401(k) is just like an employer-sponsored 401(k) plan, except you’re the only participant. You can contribute up to $19,500 to a Solo 401(k) in 2021, plus an additional $6,500 if you’re over age 50. However, since you’re self-employed, you can make additional employer contributions above the $19,500 limit. In 2021, employer contributions are limited to 25% of your income up to $58,000 (which includes the $19,500 you already contributed), or $64,500 if you’re over age 50.

Cash Balance Benefit Plan

If you’re a high-earning entrepreneur, a defined benefit plan such as a Cash Balance Benefit Plan may be a good option. These simplified pension plans allow for large, tax-deductible contributions based on a formula. Unlike a traditional pension plan that pays a monthly annuity in retirement, your account balance is paid out in one lump sum. As a bonus, you can roll over the balance to an IRA.

Each of these options comes with unique pros and cons. Be sure to do your research or consult with a financial professional to determine your best approach.

Entrepreneur’s Roadmap To Retirement Part Two: Plan Your Business Exit Strategy
When: 5-10 Years Prior to Retirement

According to the Exit Planning Institute, recent studies show that 66 percent of entrepreneurs and small business owners plan to exit their businesses in the next 10 years. However, of those businesses, only 20 to 30 percent that go to market will actually sell.

These statistics are not meant to discourage you if you’re planning to eventually sell your business and retire. You may already have a succession plan in place that includes transferring your business to an insider. If so, you don’t have to worry about going to market. Still, it underscores the importance of giving yourself adequate time to plan your exit strategy and ready your business for sale.

Step #1: Assess Your Readiness

This question not only refers to your mental and emotional readiness to retire but also—perhaps more importantly—to your financial readiness. Have you taken the time to calculate how much money you’ll need to retire comfortably? If not, this is a good place to start.

In our last post, we discussed using rules of thumb or tracking your spending to come up with an estimate of how much money you’ll need in retirement. You can also work with a financial planner to calculate this number and determine, realistically, how far you are from reaching it. The important thing is to establish a timeline for when you want to and can retire. Then, you can prepare your business and personal finances accordingly.

Step #2: Identify Your Potential Exit Paths

Generally speaking, small business owners have seven business exit paths:

1. Transferring your family-run business to a family member;
2. Selling your business to one or more key employees;
3. Implementing an Employee Stock Ownership Program (ESOP);
4. Selling your share of a partnership to another partner(s);
5. Selling to a third party;
6. Retaining ownership but becoming a passive owner;
7. Closing up shop and liquidating.

To determine which of these exit strategies makes the most sense for you, you’ll need to ask yourself a few questions. For example, do you have a capable successor within your business? Are potential successors willing to invest the time and money to grow your business? If you have children, will you treat them equitably?

You may not have answers to these questions yet, and that’s okay. Still, you’ll want to start having these conversations sooner rather than later. The more time you give yourself to plan, the more options you’ll have when you’re ready to retire.

Step #3: Run the Numbers

Lastly, if you don’t know the current fair market value of your business, you’ll want to obtain a professional appraisal. This will help you determine which exit paths are available to you. It will also highlight potential opportunities to increase your business’s future sale price.

On average, a professional appraisal can cost anywhere from $3,000 to over $30,000, depending on who you engage and the scope of the valuation. So, it’s important to do your homework beforehand. You’ll want to ensure you’re getting the information you need within your budget and can trust it.

Knowing your business’s potential market value is a good starting point for structuring the eventual sale of your business. It also allows you to estimate the potential tax consequences of each option, which can be meaningful. Most importantly, it will help you eliminate certain exit paths if they don’t meet your financial objectives at retirement. For example, if your successors don’t have the resources to buy you out, selling to a third party might be a better option for you.

You don’t have to make any final decisions at this point. However, developing your exit plan will help you clarify your objectives, assess your current resources, and show you viable options for selling your business.

Entrepreneur’s Roadmap to Retirement Part 3: Plan Your Transition from Business Owner to Retiree
When: 1-3 Years Prior to Retirement

Although you may have an exit plan in place, transitioning into retirement may not be as straightforward. There are many issues to consider—both financial and emotional—when stepping down as leader of your business. You may need to significantly shift your mindset to embrace your new identity as a retiree.

In addition, retirement typically requires a different set of skills than managing a business. For example, you’ve probably spent most of your life focused on growing one asset. You may find a new approach to managing your finances is necessary to support your second act.

At the end of the day, you want to be able to retire on your own terms. Meaning, you need to consider all factors that may impact the entrepreneur’s roadmap to retirement and prepare yourself accordingly—before the day arrives.

Three Things You Should Do Before You Transition from Business Owner to Retiree:

Step #1: Assemble Your Financial Team

A large liquidity event such as selling a business requires you to make a variety of financial decisions you may not have faced before. Having the right team of advisors can help you navigate the sale of your business, maximize the proceeds, and invest your windfall appropriately to meet your retirement goals.

Here are a few examples of advisors you may want to engage prior to retirement:

  • Financial Planner. A financial planner can help you develop and implement a plan to secure your financial future. Ideally, you’ll engage one well in advance of retirement, so you have plenty of time to prepare financially. However, it’s never too late to get an outside perspective on your personal finances.
  • Exit Planner. An exit planner can help you with both the strategic and project management aspects of exiting your business. He or she can also help you assemble the rest of your financial team.
  • Certified Public Accountant (CPA). No matter which path you choose to exit your business, you’re likely to face a variety of complicated tax considerations. A CPA can help you minimize the tax consequences of your exit plan and prepare your tax returns after the sale.
  • Business Attorney. You’ll need someone with the required legal expertise to help you structure the sale of your business and prepare the necessary documents and contracts to support it. A business attorney can also help you avoid potential legal pitfalls throughout the process.

Step #2: Set New Personal and Financial Goals

After selling a business, many entrepreneurs struggle with what to do next, how to spend their time, and where to invest their money. Setting new goals prior to retirement is one way to avoid the dreaded feeling of, “what do I do now?” once you step away from your business.

How do you envision your life in retirement? Your day-to-day activities may look very different depending on whether you stay involved with the business or completely cut ties after the sale. Regardless, you should have some idea of how you want to spend your time–and how your money will support those goals.

Again, you don’t have to wait until just before retirement to think about your retirement goals. However, you’re more likely to have a realistic vision the closer you get. Even if you’ve already set goals, you should revisit them periodically to make sure they’re still relevant.  

Step #3: Diversify Your Assets

You may have heard the adage, “Concentration builds wealth, but diversification preserves it.” As an entrepreneur, you’ve likely built up your nest egg by concentrating your personal capital in one asset—your business. After all, this probably feels like the safest path. You’re intimately familiar with the details of your business and feel in control of its performance.

However, investing in a single asset can also result in excess volatility. In some cases, it may even lead to permanent loss of capital. To preserve your wealth in retirement, you’ll need to take a more diversified approach. This means investing in different asset classes, geographic regions, and investment styles that behave differently from one another in various market environments.

The idea behind diversification is that your risks are balanced. When one area of an investment portfolio isn’t working, another area likely is. In other words, you shouldn’t experience dramatic swings in performance.

Since you’ll be drawing down your nest egg in retirement, you want it to remain as stable as possible. If you’re not sure how to achieve this yourself, a financial advisor can help you diversify your assets to best support your desired lifestyle in retirement.

The Entrepreneur’s Roadmap to Retirement: Planning For The Future

The entrepreneur’s roadmap to retirement is rarely a straight shot. In this blog article, we described three important milestones you should hit along your path to retirement. First, make use of qualified retirement accounts to supplement your assets in retirement. Second, plan your business exit strategy. And finally, start thinking like a retiree instead of an entrepreneur.

One of the ways you can get ahead of these milestones is to engage a financial advisor sooner rather than later. Oak Capital Advisors specializes in exit and retirement planning for entrepreneurs. We can help you anticipate financial opportunities and challenges as you navigate your business and prepare for the future.

If you’d like to have an initial conversation about your retirement, you can request a free retirement assessment to get started. Or, download The Ultimate Retirement Checklist for Small Business Owners & Entrepreneurs to see if you’re on the right track.

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