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Two questions: Retirement challenges facing business owners and professionals

Q: How can I convert my business into planned retirement income?

A: With all businesses, especially those that are primarily service oriented, it is important to transition from one that is "lifestyle based" to one that can be "equity based." Lifestyle, as the name implies, is purposed to support the owner's living standard according to his/her schedule, income and tax benefit needs. As such, the value is based on the owner and typically diminishes or vanishes when he/she retires or passes.

By contrast, an equity-based organization is designed to run with the intention of providing a value that can be accessed by the owner or his/her family at some future time. Keys to developing an equity-based entity include:

Staff – The owner must be surrounded by people capable of replicating the product or service, thereby extricating him/her from the day-to-day business operations. Critical in this is the staff's capability to handle routine matters, especially those that involve customer contact. The owner involvement of course remains, but is elevated to a significantly higher level like new business development and strategic planning.

Procedures – Key to the businesses equity value is its ability to deliver a consistently high quality product or service independent of the owner's involvement. A "replicable" process can only be based on developing clear procedures and guidelines that motivated staff can follow without the owner's constant oversight and direction. Michael Gerber's "E-Myth Revisited" provides an excellent foundation for proceduralizing that replicable process.

Retention – It is essential to have one to three key employees who can act as the owner would, take pride in the business' success, and have effective incentives to thrive personally along with that success. Bonuses based on performance and results, or even potential incremental ownership over time may prove helpful in retaining good employees.

Succession can involve ownership transference to family members, co-owners, current employees or an outside third party. The keys are that the entity be capable of operating separately from its owner, and that the transference be done in the most tax advantaged manner possible. Depending on the circumstances, this can result in a lump sum, a payment over time, an on-going interest in the entity or some combination of these.

Q: Which qualified retirement plan is best for my situation?

A: Several factors need to be considered, including:

Variability of business revenues and income – Generally, greater tax benefits are available at the cost of higher committed plan contribution levels. The downside, of course, is that in lean years it could be difficult to maintain those higher contributions. It is important to carefully weigh these, and often advisable to err on the side of greater flexibility and lower contribution levels.

Owner or Employee Emphasis – The Employee Retirement Income Security Act (ERISA) is the major body of regulations that specifies minimum participation requirements for rank and file employees. Within these rules is some flexibility that can allow owners to receive a relatively greater proportion of dollars contributed. This is especially so if the firm is willing to make prescribed minimum contributions under "Safe Harbor" provisions, and/or if the key employees have a significantly higher average age under "Age Weighted" arrangements.

Retention – Ensuring that the dedicated staff built through the years is sufficiently compensated so to not be tempted to look elsewhere for employment is important. It may also be a priority to provide them with an incentive to begin saving for their futures. This is especially so since many workers are not saving enough to be able to live comfortably after retirement and the owner worries about their well-being.

Every business weighs the relative importance of these issues differently. Generally, each plan has trade offs between amount of annual tax-deductible contribution allowed, flexibility of varying that contribution in good and lean years, and a desire to reward employees versus encourage them to save for themselves. When properly done, the right retirement plan can provide the owner with effective tax benefits now, a stream of reliable income well into retirement, and a motivational-retention tool for important employees.

Every owner will one day leave the business. The question is, will it be on his/her own terms or dictated based on health or financial circumstances? When it is properly planned, it can be a positive, life changing, wealth creation event that brings financial independence to the owner and/or family, and has the added benefit of leaving the business a healthy, viable entity that can flourish long after the owner departs.

A qualified financial adviser can help develop a clear picture of a business's value and then integrate that information with the owner's personal financial situation to give a comprehensive view needed to plan for a successful future.

(Charles Sims Jr. is President/ CEO of The Sims Financial Group. Contact him at 901-682-2410 or visit www.SimsFinancialGroup.com. The information in this article is not intended to be tax or legal advice, and it may not be relied on for the purpose of avoiding any federal tax penalties. You are encouraged to seek tax or legal advice from an independent professional advisor.)

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