Most business owners spend years learning how to run and grow their companies. But building a successful business and building personal financial security are not always the same thing.
As the business grows, it's easy for an owner's personal finances to take a back seat. Cash gets reinvested. Retirement planning gets postponed. Tax decisions are made one at a time rather than as part of a coordinated strategy.
Over time, that can leave a business owner with substantial wealth tied to one asset: the business itself.
Here are three financial planning challenges we frequently see with business owners and some of the questions worth considering.
Problem 1: Everything Goes Back Into the Business
Reinvesting in the business can be essential for growth. New employees, equipment, technology, inventory, marketing and expansion all compete for available cash.
The challenge comes when nearly all of an owner's wealth continues to accumulate inside the company.
That creates an important planning question: Are you building personal wealth alongside business wealth?
One approach is to establish a deliberate strategy for moving some of the wealth the business generates into assets held outside the company. Rather than treating personal saving as something that happens when there's money left over, it becomes part of the financial plan.
Over time, that can help diversify where your wealth resides and reduce the extent to which your long-term financial future depends on one eventual business outcome.
Problem 2: Your Retirement Plan May Not Fit Your Business
Business owners have access to several types of retirement plans, and the differences between them can be significant.
A few common examples include:
Solo or one-participant 401(k). This type of plan generally covers a business owner with no employees, or the owner and spouse. The IRS notes that an eligible business owner can make contributions in both employee and employer capacities. [irs.gov]
SEP IRA. A Simplified Employee Pension allows an employer to make contributions to traditional IRAs established for eligible employees. The IRS notes that businesses of any size, including self-employed individuals, can establish a SEP. [irs.gov]
Defined-benefit plans. Small businesses and self-employed individuals may also have access to qualified defined-benefit retirement plans. The IRS includes defined-benefit plans among the retirement-plan resources available to small employers and the self-employed. [irs.gov]
The appropriate option depends on factors including the structure of your business, whether you have employees, compensation, cash flow and your broader financial objectives.
The takeaway isn't that one type of plan is best. It's that a retirement plan should be evaluated as part of the owner's overall financial strategy, rather than treated simply as an employee benefit.
Problem 3: No One Is Looking at the Whole Picture
A business owner can have an excellent CPA, attorney and wealth advisor and still lack coordination among them.
Your CPA may be focused on tax reporting and planning. Your attorney may be focused on the company's legal structure and agreements. Your financial advisor may be focused on investments and your long-term personal financial plan.
But many decisions overlap.
How much you take from the business, retirement-plan contributions, investment decisions, estate planning and future plans for the company can affect one another.
That's why coordination matters.
Rather than making financial decisions in isolation, business owners can benefit from looking at how decisions involving the company connect with their personal financial goals. When appropriate, that may mean bringing the owner's financial, tax and legal professionals together to evaluate the bigger picture.
The Bigger Picture
Addressing these issues isn't only about preparing for retirement or a future sale.
It's about creating options.
Building assets outside the business can reduce dependence on a future transaction. Evaluating your retirement plan can help ensure it continues to serve your goals. Coordinating your advisors can help you make decisions with a better understanding of how one piece of your financial life affects another.
And that leads to an even bigger question:
If your business represents a significant part of your wealth, what are you doing today to make sure it's ready for your eventual transition?
That's where exit planning begins.
How a Financial Advisor Can Help a Business Owner
A financial advisor can help connect what's happening inside the business with what the owner wants to accomplish outside of it.
At Seapoint Wealth Advisors, we help business owners evaluate their personal financial picture, build wealth outside their companies, plan for retirement and coordinate with their other tax and legal professionals when appropriate.
The goal isn't simply to prepare for an eventual exit. It's to make thoughtful financial decisions while you're still building the business.
Next in the Business Owner Exit Planning Series:When Should You Start Planning to Sell Your Business? Sooner Than You Think.
FAQ
Do small business owners need a financial advisor?
Not every business owner has the same planning needs, but an advisor can help an owner evaluate how the business relates to retirement, investments, personal cash flow and other long-term financial goals. Coordination with tax and legal professionals may also be appropriate.
What retirement plans are available to business owners?
Depending on the business, options can include SEP IRAs, one-participant 401(k) plans and other qualified retirement plans. Eligibility, contribution rules and administrative requirements differ by plan. The IRS provides retirement-plan guidance specifically for small businesses and self-employed individuals. [irs.gov], [irs.gov]
What is a Solo 401(k)?
The IRS describes a one-participant 401(k), also commonly called a Solo 401(k), as a traditional 401(k) covering a business owner with no employees or the owner and spouse. An eligible owner can generally contribute in both employee and employer capacities, subject to applicable rules and limits. [irs.gov]
What is a SEP IRA?
A SEP allows an employer to make contributions to traditional IRAs established for eligible employees. According to the IRS, businesses of any size, including self-employed individuals, can establish one. [irs.gov]
Why should business owners build wealth outside their businesses?
Doing so can diversify where an owner's wealth is held and reduce the degree to which future financial goals depend on the value or eventual sale of a single business.
This article is for general informational purposes only and is not intended to constitute personalized financial, tax or legal advice. Consult appropriate financial, tax and legal professionals regarding your individual circumstances.