When we first talk to business owners about financial planning they usually reply: ‘My business is my pension.’ Equally this applies to many employees – ‘My house is my pension…’
This is a poor place to start with your financial planning, and may leave you far short of your ultimate goals.
Why your business is not your pension!
OK, your business might prove to be your pension, but it might not. By saying that it will provide you with a future income you are leaving your retirement plans in the lap of the Gods.
By saying that your business will provide you with an income, what you are really saying is that you will sell up in the future, and someone will come in and give you enough money to retire on.
Will you be able to sell your business?
Any asset is only worth as much as what someone else is prepared to pay for it. You might not actually have a business that someone wants to pay for.
We meet many business owners who are actually just self-employed consultants. They have swapped the employee life for self-employment, but the business would not run without them. With this in mind, without them there is probably no business, so who would pay for that?
The best kind of business runs without the owner.
If you haven’t already, get hold of a copy of Rich Dad, Poor Dad by Robert Kiyosaki. His analysis of this area is very useful (his cashflow quadrant).
Financial planning is about getting to financial independence – i.e. being able to survive without the income from the business. If you run your finances well, you can eventually become an investor. This means you rely on your money to do the work, not you. If you do this well enough, you can choose not to work, and live off your independent income.
How much do you actually need?
You should first work out what you need to be able to fund your future lifestyle, and work backwards from there. If you know how much you need you can build a plan to achieve that worth for your business, and more importantly build the business in such a way that someone else will be prepared to buy it.
You could work closely with other business advisers such as an accountant or business coach to plan for your exit strategy.
Think of your business as a cash generation tool
You should be able to earn income from your business, either as salary or dividends. Hopefully you can also sell it at a later date for a lump sum. These streams of cash should be used towards your ultimate aim of independence.
Don’t forget tax!
Why your house is not your pension!
You may be able to use your house to supplement your future income. However, in my experience this is rarely desirable for most people.
You could choose to downsize, but who wants to work hard all their life to get the house of their dreams, to then sell up to someone else so you can live more easily?
You could choose to release equity from your home through a complex mortgage product. However, for most people this is expensive, complicated and risky.
Surely it would be better to have some financial discipline now and prepare for the future with your eyes wide open?
Want some help?
We work closely with our clients to develop and maintain their financial plans. If you would like some help in preparing your plan, please contact us.
When you sell your business you will need to pay capital gains tax at 10% or greater.
Dan Woodruff is a Certified Financial Planner based in Colchester, Essex, UK. He regularly writes articles on financial planning and investments aimed at UK business owners and investors. Go to http://www.woodruff-fp.co.uk to find more content, or sign up for his free newsletter or financial planning blog.