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Why your small business shouldn’t be your only retirement funding option Add to ...

Have a question about a small business topic? Let our resident expert Chris Griffiths take a run at it. E-mail your questions to smallbusiness@globeandmail.com. Confidentiality ensured.

Most small business owners put all they have into starting and growing their small businesses. As such, they often plan to sell those businesses as a means to fund their retirement. Nothing wrong with that, as long as it’s not their only plan for financing retirement.

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First of all, you need to build a business that you can sell into retirement which requires years of management and foresight. And in the case of many small business owners, that’s not a key priority. Most small businesses are so dependent on their founders to run the day-to-day operations and to put the fires out, that selling to a third party becomes challenging.

Furthermore, most small business owners operate their businesses to reduce their tax obligations, as opposed to demonstrate their ultimate profitability and cash flow potential. Creating a ‘well-oiled machine’ that can run without you and generate net income strong enough to interest a wide variety of acquisition candidates takes years of work and planning. Failing to do so means that when you’re finally ready to retire and ‘cash in,’ finding a buyer -- as well as getting a high price for your business -- may be extremely difficult.

Even if you’re intent on building a business you can sell, I wouldn’t put all my eggs in that business. Relying on nothing but your business for funding your retirement is the equivalent of a pension plan that invests all of its assets into one stock. You need to diversify.

When my first business was in its infancy, I struggled to pay myself any salary at all, let alone enough to be able to save for retirement. Then, as the business grew, I was able to start paying myself fair market value and began putting away at least 10 per cent of my salary into RRSPs or similar savings vehicles.

Selling my business was the most profitable thing I have ever done (thanks in no small part to the capital gains tax exemption – allowing my first $750,000 of gains to be free) but I’m glad that it wasn’t the only thing I had done to plan for my retirement.

Small business owners have other retirement planning options that are not available to other individuals. For example, your business can be held within a family or living trust entity allowing money to flow from your business to other beneficiaries such as your spouse, children, grandchildren and others.

Small business owners can also keep profit within the business, avoiding personal tax until the money is eventually withdrawn as salary or dividends. If you’re concerned about leaving too much cash in your business (there could be liability and tax dynamics at play here) you can have some of these profits paid out to a beneficiary company (an non-operating company set up just to hold and invest cash) to be invested and held until they are needed in retirement.

The best route to take is highly dependent on your own personal and business situations and structures. But one thing’s for sure, relying solely on the future sale of your small business to fund your retirement is not a path I would ever recommend. As an employee of that company, I would recommend you save for retirement in addition to building your business. Explain your desire to diversify your retirement savings with your accountant and you’ll be glad you did. As a business owner, you have more options than an employee and the diversity will benefit you in the long run.

Chris Griffiths is the Toronto-based director of fine tune consulting, a boutique management consulting practice. Over the past 20 years, he has started or acquired and exited seven businesses.

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