3 Smart Retirement Strategies for Small Business Owners
When nearly 50 percent of the population is unprepared for a major life event, we have a problem. That’s exactly the picture that a Survey of Consumer Finances (SCF) paints for us regarding business owners and retirement: 46 percent don’t have a plan in place.
Here’s why this is critical: You don’t get a “do-over” when it’s time to retire. That’s probably why many business owners have a retirement plan that is simply to never retire. Let me add one thing to this to underscore the importance of planning in advance (and well in advance if possible): Sometimes circumstances will force you to retire early, such as an unexpected health problem.
If you own a business, there are several areas that can work together to provide you an income that will maintain your standard of living when you decide to retire. Let’s break it down into three major groups:
- The value of your business
- The value of your investments
- The value of your house
Diversify for safety
Diversification plays an important role in almost every financial strategy, and if your retirement plan includes strategies in each of the three categories I listed above, your retirement plans will be well diversified. Diversification helps “cover your bases” when one area of the economy starts to underperform.
Going back to my list, if you work on only two of those three areas, you’re a bit less safe, and if you only do one, you’re really skating on thin ice. Let’s look at each category and go over important tactics and tools you have at your disposal:
1. Cash in on the value of your business
It’s natural for you to see the company you have built as “money in the bank” and to plan on using that money to fund your retirement. However, it’s very important to start grooming your business early if you want to get the maximum value for it come retirement time.
Some qualities that you think enhance its value might, to prospective buyers, actually lower its value. One situation like this would be if your business depends on a few big clients that you’ve had for many years. You prize their loyalty, and the fact that you don’t have to service dozens of smaller clients seems like it builds efficiency into your company.
However, to a buyer, having a huge chunk of revenue determined by a few clients can increase the risk. What if they are loyal to you more than to your company? You’ll want to look at this situation and see if it would be wise for you to diversify (hey, there’s that word again!) your client base.
The same kind of analysis can apply to a “key man” or woman in your company. If you depend on an individual to keep things going, it’s an issue you need to address.
Also, how close you are to selling your business can guide your business development strategy. For example, rather than invest in expansion plans that won’t see a major return until years later, you might want to do some consolidation and implement efficiencies that boost your profit margins now.
There are consultants and business brokers who can help you audit your operation and formulate strategies that will ensure you get top dollar for your business when it’s time to put it on the market.
2. Establish an investment account
Most of us know something about the alphabet soup of government-sanctioned retirement savings accounts: IRAs (traditional and Roth) and 401(k)s. But there are some other twists for small business owners. These include the SEP (Simplified Employee Pension) IRA, the SIMPLE (Savings Incentive Match Plan for Employees) IRA, and the self-employed 401(k).
Each of these differs in fairly significant ways. Every business owner’s situation is different, but here are the major points you need to consider:
- Fees
- Employee participation
- Yearly contribution amounts
- Your current age
For example, if you have employees, will they participate pretax, and do you want to contribute to their retirement accounts as well? Also, if you’re over 50 years old, the law allows you to increase your contributions as “catch-up” contributions. SIMPLE IRA or 401(k) plans may permit catch-up contributions of up to $3,000, while traditional and Roth IRAs allow only $1,000 in catch-up contributions.
Before we leave the topic of investment accounts, we need to touch base with our diversification principle again: You aren’t limited to mutual funds and CDs for these plans; they can be set up to include precious metals, real estate, loan notes, and other investments.
3. Cash in the value of your house
Many business owners who haven’t consciously opened a separate retirement account are fortunate to have built up substantial equity in their homes over the years. However, before I go on to explain how wonderful this is, we need a quick reality check. When the housing bubble burst back in 2008, many families who were depending on their home equity to fund their retirement years suffered huge setbacks and had to postpone their retirements.
There are a couple of good ways you can use the equity in your home to help fund your retirement. One is taking out a reverse mortgage. Generally speaking, to do this you need a good amount of equity in your property—the more equity you have, the more cash to you each month. You would need to continue to live in your home, keep it up, stay current with your taxes and insurance, and meet other considerations, including age requirements. Reverse mortgages have preserved the standard of living for many families over the years by providing a steady and predictable monthly income.
On the other hand, if you aren’t committed to spending your retirement years on the old homestead, downsizing can work well if you have a good amount of equity in your home. This is especially attractive if you live in an area with high real estate prices and don’t mind moving to an area with lower property values, or if you choose to rent.
Currently, the IRS allows a lifetime capital gains exemption of $250,000 for individuals and $500,000 for couples when you sell your primary residence. If you don’t have a lot of money tucked away when you retire, cashing in on the equity of your home by selling it can be a good strategy.
These are some of the best retirement options for business owners. All of them require planning, and while better late than never is true, better earlier than later is wiser.
