Many of Weatherly’s clients have generated their wealth through starting and growing businesses. Whether serial entrepreneurs or strategic purchasers of existing companies, there are few things more rewarding than seeing a company flourish under your stewardship. Planning for one’s own financial success often brings its own level of challenges; however, business owners must balance both the success of their personal and business simultaneously. Business owners often divert much of their attention and energy to running the business so that their personal financial situation can take a back seat. In this blog, we’ll focus on many of the topics we discuss with clients as they navigate the growth, maturity and exit stages of their business.
Business Structure
One of the most consequential aspects of starting a business is choosing the type of structure. There are five most common business structures including Sole-Proprietorships, Partnerships, S-Corporations, C-Corporations, and Limited Liability Companies (LLC). The choice of business structure dictates how you are taxed, personal liability of debts or negligence, ease of raising capital and adding new owners.
Sole-Proprietorships are single person businesses that do not form a separate business entity. This is the easiest, and cheapest, structure but has several drawbacks. First, because the business isn’t separate, you can be held liable for any debts or business issues you run into. It can also be more challenging raising outside money for your business because you can’t issue stock and banks may want a more formal business structure before lending money. It is common for thriving Sole-Proprietorship to change to a different structure as they mature. Sole-Proprietorship’s are taxed on the owner’s personal tax return.
Partnerships are businesses with 2 or more owners that are categorized as two different types. Limited Partnerships (LP) have one General Partner who takes on the liability, and one or more Limited Partners who are exempt from the liabilities. The second type is Limited Liability Partnerships (LLP) where each partner is responsible for certain liabilities but is not responsible for the actions of the other partners. Taxes for partnerships generally flow through to the Partners’ personal tax returns. LP’s may also be coupled with an S- Corp for additional asset protection.
S-Corporations are used to avoid corporate taxes and allow certain profits and losses to flow to the personal tax return of the owners. This structure requires filing approval with the IRS and state (note that some states don’t recognize S-Corps, so you’d be treated like a C-Corp). As such, Corporations are more expensive to operate than other businesses and require specific record-keeping and reporting. You can issue stock in your Corporation to attract employees or raise capital through outside investors. Corporations also provide more protection for owners because the entity itself is liable for debts and lawsuits.
Limited Liability Companies (LLC) allow you to separate your business from your personal assets and protect things like your house and savings from lawsuits or bankruptcy. LLC’s require formation in a specific state and sometimes have to be dissolved and reformed as the business changes. LLC members typically enjoy profits and losses flowing to their personal tax return but must file self-employment tax. People looking for tax advantages and significant personal liability protection often use LLCs before stepping up to the more complicated Corporation status.
C-Corporations have many of the same expenses, reporting requirements and S-Corps but differ in the way they are taxed. Corporation profits are taxed at special tax rates, and there can be instances of “double taxation” when profits are taxed and then dividends are issued and taxed at the investor or ownership level. C-Corps don’t have the specific eligibility requirements of S-Corps so are far more common. This type of business is best for larger or higher risk business with the goal of adding more shareholders or eventually filing a public offering.
Business Life Cycle
Once you define your business structure, operating the business can take many shapes. Managing of income, expenses and cash flow is paramount to the growth of your business and what you eventually expect to earn from your hard work. Early on in business, we see two typical scenarios. First, fledgling businesses aren’t generating enough cash flow to pay large salaries so an owner will keep their annual take-home pay low to reinvest into the business for growth. For younger entrepreneurs, this can be financially stressful so they often seek capital from outsiders by giving investors a minority stake in the business in return for capital to live and/or grow the business. The second scenario is when the owner(s) have ample personal liquidity so they make the deliberate decision to keep their take-home low to enhance the valuation of the company. Having the majority stake in any scenario can lead to large windfalls down the road when the business is sold in part or in whole.
After the business has demonstrated market relevancy and profitability, ownership has the luxury to strategize their take-home via salary, bonus, guaranteed partner pay, and distributing profits or dividends. It is important to work with your tax experts to find out what choice is the best for your personal tax situation and for the business. Finding a happy medium is where your business’ tax advisor and finance team earns their merit. This is a common stage for our existing clients as they are generating enough income to increase their savings in retirement accounts (Solo 401k, 401k, Defined Benefit Plans, Profit Sharing Plans) or simply adding money to their family trust account for a future goal like retirement.
Finally, after much of the hard work is done, the decision to exit the business can create a significant amount of angst for owners. How will I support my lifestyle? How will the sale be taxed? How many years is my payout? What if the new owner destroys what I’ve built? These are all valid questions, and our job is to work with your trusted advisors (CPAs and Attorneys) to quantify the payout and build a financial plan with the qualitative desires you envision for your retirement. Or in many cases, your retirement might be short-lived, and you end up consulting or building another business! Whatever path you choose, our planning exercises can give peace of mind and a framework for success.
Savings
As we mentioned at the beginning of this blog, business owners can become overtly focused on the success of their business that they can lose sight of their own retirement savings along with the opportunity to maximize their after tax income. Depending on the structure of the business, owners typically have a few different retirement vehicles they can employ to help save for their future retirement such as 401k, profit sharing, or defined benefit plans.
Self-employed 401k’s – also referred to as a Solo 401k, provide the opportunity to save via employee and employer contributions depending on the level of income generated each year. A SEP IRA is a similar vehicle that business owners often hear about but has slightly more restrictive contribution limits on the employer side.
While the Self-Employed 401k is a great place to start saving for many business owners, those with higher incomes may have the opportunity to save further by establishing a Profit-Sharing Plan and/or Defined Benefit Plan. While the plans can allow for additional savings, there are rules and requirements depending on the number and type of employees that make up the business. Profit Sharing plans allow the employer to make contributions at their discretion allowing for flexibility while also providing employees with a share of the company’s profits.
Defined Benefit Plans have annual contribution requirements and are more suited for mature businesses with steady profits. Weatherly works closely with both the client’s tax professional and Third-Party Administrators (TPA) to help establish and contribute to these plans on a yearly basis. You can find a link to our Key Data Chart for updated contribution limits.
Protection
All of the planning and energy that goes into running a business and saving for one’s retirement would be all for nothing if it wasn’t properly insured. It’s imperative that both the individual and business have adequate protection in the case of litigation or succession planning. While the structure of the business may provide a level of protection, it is not enough by itself to ensure a smooth transition and resolution should an event arise. We highly recommend that a client reviews their personal property and casualty and umbrella coverage on a yearly basis or anytime there is a material life change. Life insurance also plays a critical role to protect a family should something happen to an income earner and can also serve as a valuable vehicle in estate liquidity and help heirs avoid selling real assets to cover any estate tax liability.
On the business side the list is extensive and holding the proper type and level of insurance can vary from General Liability, Key Person, Errors and Omission, and Cyber insurance. There are numerous additional policies that may be needed depending on the type and structure of your business that should be carefully reviewed with an insurance professional.
Exit Strategies and Retirement Planning
The transition from running a business day in and day out towards retirement is often multi-faceted and often difficult for many business owners to adjust to. Including but not limited to a change of daily responsibilities, no longer receiving a paycheck, or structuring the sale of the business may be a multi-year endeavor. Weatherly helps guide clients through this transition by first taking inventory of the client’s personal situation and running a holistic retirement plan encompassing every aspect of their financial life. This is an ideal time to get a business valuation and sale projection to be paired with a review of the net worth.
This helps ensure that first and foremost the client is at a position where they can comfortably step away from the business and enjoy the lifestyle, they’ve often spent decades building towards. The intersection of a client’s retirement goals, cash flows, level and types of assets will provide various opportunities as we plan their next stage of life.
Given the uncertain nature of selling a business from timing to structure, Weatherly is often involved in conversations with the client’s other trusted professionals such as attorneys and tax professionals. There are many different paths a business owner may take such as an outright or partial interest sale, installment, transfer of ownership to family members, and any combination of the above. These pose numerous scenarios that will impact a client’s retirement, tax, and estate that need to be accounted for. This is an important time to ensure that both your business structure/succession plan aligns with your personal estate planning.
For these reasons Weatherly will model out various scenarios depending on the client’s ultimate goals to help allow the client to weigh the pros and cons of each scenario on their personal and financial situation. Sales of businesses often are accompanied by a significant tax burden to the owners and is often paired with philanthropic strategies that help support the causes closest to the client and the implied tax implications. Common approaches here are vehicles such as Donor Advised Funds (DAF) and Charitable Trusts.
Summary
As a fellow small business coming up on its 30th year anniversary, Weatherly has helped guide clients and their businesses through all phases of the life cycle from structuring to the ultimate exit. Through continuous transparency and communication, we help provide business owners a unique insight of the intersection between their personal and professional lives and welcome the opportunity to help plan for your future success.
https://www.sba.gov/business-guide/launch-your-business/choose-business-structure
** The information provided should not be interpreted as a recommendation, no aspects of your individual financial situation were considered. Always consult a financial professional before implementing any strategies derived from the information above.
As of the start of the 4th Quarter 2021, Weatherly officially entered its 27th year of serving clients. The team at Weatherly feels beyond fortunate to be able to work with clients in the way that we do. This exciting milestone, paired with the unprecedented global climate of the past 20 months, has us reflecting on the services we provide and when our team feels we are doing our best work.
When describing our approach to client service, our team favors the “dinner plate” analogy. While our core pillars of investments and planning take the largest share of the plate, there are a number of strategies that serve as side dishes to complement our two main competencies and take the overall client experience to the next level. Our team leverages the information gained through ongoing dialogue with each client and their trusted professionals and couples it with expertise of our team to maximize positive impact.
We are often asked from both current and prospective clients – how do I fit into Weatherly’s core client base? Although we provide customized service to clients of all backgrounds, over the years our client base has organically morphed into 3 niche client groups: Entrepreneurs and Small Business Owners, The Working Wealthy, and Women. In this month’s blog post, we begin a 3-part series through which we will individually explore our niche client groups. We will introduce hypothetical case studies per client group that highlight the way in which we weave different solutions together to create the highest level of customized service for each individual we serve.
We begin the series with the “Entrepreneurs and Small Business Owners” niche client group. Whether it be a self-employed individual, entrepreneur with several employees or family business owner, members of this niche client group are typically high net worth or ultra-high net worth individuals who are high income earners and have a majority of their assets tied up in their businesses. There are many variables in this subgroup that can contribute to the complexity of their financial life. In the below case study, we explore the fictional situation of “Business Owner Ben and Self-Employed Sarah” and how Weatherly was able to help create a financial roadmap that addressed their unique situation.
When we first met Business Owner Ben and Self-Employed Sarah, their excitement and enthusiasm about their family’s business was infectious. They were entrepreneurs with a unique approach to working together on different aspects of the business, which nicely complemented their previous educations and backgrounds in engineering and accounting, respectively.
Ben and Sarah’s passion for problem-solving, testing and innovating products and services was a great match for how our Weatherly team collaborates – starting with the clients’ team of 2-3 advisors offering them our core pillars of financial planning and investments, paired with our team of experienced subject matter experts. Our first priority as a potential advisor to Ben and Sarah was to understand their current financial situation, long-term outlook and goals and where there might be risks and opportunities in their plan.
After our initial discovery call, we understood their current focus on their business’s future growth and desire to incorporate family ownership and community philanthropy. We initiated several dialogs with Ben and Sarah and incorporated their adult kids into relevant conversations. We also were introduced to their estate planning attorney and CPA so we could problem-solve collectively as their advisory team.
It was extremely apparent they were juggling a lot of responsibilities and had a passion for growing their business, creating a legacy for their family and giving back to the community, so we discussed a number of methods to help make their goals a reality. We kept the big list in the background and prioritized a short list during our scheduled meetings to make the most of Ben and Sarah’s time based on what was most important. The big list included:
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- Estate Planning – The estate planning discussion started with a basic business and personal document review, ensuring consistent and up to date with current law and evolved into a discussion of how to leverage your trusted advisors. When Ben and Sarah were ready, we incorporated their adult kids, who were named as their estate trustees, into the conversation.
- Life Stages of a Business– Ben and Sarah were deep into what we call the “teenage” stage of a business – with a heavy emphasis on growth. As small business owners ourselves, we offered advice on types of business structures to consider, how to establish retirement plans and what type of insurance they may need.
- Retirement Planning – The opportunity in the retirement space can often be overlooked by business owners. We were able to optimize their retirement 401k plan and establish a small business plan that offered benefits to all employees and profit sharing and cash balance for the highly compensated. For Ben and Sarah personally, we were able to solve for their retirement income equation and determine when they could start to step away from the business and transition to the next generation.
- Private Equity – Over our years working together, we saw the business grow into the “adult” phase where the dialog pivoted to succession planning and family dynamics. We introduced Ben and Sarah to an Investment Banker to help ready the company for next steps and stages in their life cycle. As their adult kids were folded into the business appropriately, we worked with next gen on their own financial and succession plans, with topics that were relevant to them.
- Philanthropy – Ben and Sarah had a strong desire to give back to their community, similar to our team at WAM. They were donating cash year over year to local charities, which certainly created impact but could have been done in a tax-efficient manner as well. We helped to create a Donor Advised Fundto help offset the sale of real estate and incorporate their adult kids in the investment and granting committees.
Fast forward 5 years later, Ben and Sarah have enjoyed the success of many of the investment and planning strategies utilized by our team of advisors, while allowing them peace of mind, time and flexibility to focus on what really mattered to them – their business, family and community. As their business pivots to incorporate new products and people, and their investment assets have surpassed their expectations, they are now faced with the proposed estate and tax changes and are working with our team to create additional gifting to next gen and philanthropy. The Weatherly team continues to work with their children, friends and family they have referred over the years.
What brought Ben and Sarah to Weatherly was an interest in our core pillars of investments and planning, or what we like to call our main entrée. What elevated the relationship and brought additional value was our focus on the big picture, understanding their goals and needs, and focusing each dialog on their list of priorities. Our side dish offerings have evolved over the years as their business and family continues to grow.
We feel so fortunate to work with clients like Ben and Sarah each day and are witnesses to the ripple effect on their business, family and community.
As we have just seen with “Business Owner Ben & Self-Employed Sarah” Weatherly works hand in hand with entrepreneurs and small business owners at every step of the way to create a strategy that maximizes a positive impact on their life, livelihoods and legacy.
If any part of Ben and Sarah’s situation sparked your interest, our advisors would be happy to schedule a planning call to discuss these strategies and more. Be sure to keep an eye out in the coming months for the next two installments of our niche client group blog series to learn more about how we implement our core competencies of investments and planning to benefit the groups of the working wealthy and women!
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Case Study Disclosure
This hypothetical case study is provided for illustrative purposes only and does not represent an actual client or an actual client’s experience, but rather is meant to provide an example of the Firm’s process and methodology. An individual’s experience may vary based on his or her individual circumstances. There can be no assurance that the Firm will be able to achieve similar results in comparable situations. No portion of this article is to be interpreted as a testimonial or endorsement of the Firm’s investment advisory services and it is not known whether the hypothetical client referenced approves of the Firm or its services.
The information provided should not be interpreted as a recommendation, as no aspects of your individual financial situation were considered. Always consult a financial professional before implementing any strategies derived from the information above. Working with a highly-rated adviser does not ensure that a client or prospective client will experience a higher level of performance or results. Past performance is not necessarily indicative of future results. http://www.weatherlyassetmgt.com/adv/
Business owners live two often intertwined lives, their own and their business’s. We view the process of creating, growing, establishing and ultimately exiting a business similar to the different stages of a human’s life. Just as a person’s interests, motives and actions differ as they progress from infancy to the later stages of life, the considerations that businesses face vary from start-up to maturity. As in life, business owners need to nourish and develop their craft while utilizing internal and external experts, leveraging technology, focusing on innovation and leading their team into the future. The chart below summarizes some of our thoughts on the considerations faced as a business progresses through the stages of the life cycles.
Click here to enlarge and interact with the Stages of Business chart.
Most business owners are focused on the day-to-day growth of their business. Often an owner may find it difficult to judge where their business falls in the life cycle and fail to create the bandwidth to prioritize next steps. Through thoughtful discussion and by leveraging Weatherly’s connections and experience, potential value can be added as your business enters the growth stage, becomes an established business or approaches the mature stage. A team of experts including retirement specialists, business attorneys, CPAs and wealth advisors can help to lead, design and implement the appropriate next steps. Considerations of retirement plans, key man insurance and developing a next-gen roadmap are all integral parts of our discussion on how to best convert your hard work into a saleable asset and plan for a more secure outcome.
As one of our favorite niche clients, Weatherly works with small business owners at all stages of the life cycle. Creativity and formation begins the development process but the opportunity to protect business structure, reduce taxes and develop a plan for the highly compensated also becomes central as a company matures. If you or a friend owns a business and wants to review our capabilities, Weatherly would be happy to schedule a consultation and we welcome the opportunity to lend a helping hand as your business progresses through its own life cycle.
** The information provided should not be interpreted as a recommendation, no aspects of your individual financial situation were considered. Always consult a financial professional before implementing any strategies derived from the information above.