As income increases, so do financial complexities, both in personal and business finance. As new problems emerge, owners can feel they are on the back foot trying to handle their finances. Each time one area is solidified, another side poses new problems. While no financial plan can completely cover future problems, covering the basics across Cash Flow, Taxes, Retirement, Insurance, Estate, and Investments can give you a much stronger footing for what is to come.
Key Takeaways
- A solid financial plan should include clear compensation guidelines and reserve accounts, a plan to set aside 20-45% of income in a dedicated tax savings account for quarterly payments, and tax planning strategies to reduce liability.
- Rather than relying on the sale of their business for retirement, business owners should establish a retirement plan within the company, allowing them to benefit from tax deductions and work toward specific goals.
- Effective risk management through both personal and business insurance, as well as buy-sell agreements, can protect business owners from unforeseen events and ensure business continuity. Similarly, estate planning helps reduce financial trust, protect assets, and minimize estate taxes for business owners and their families
- Once foundational planning and risk levels are established, business owners should focus on ensuring their investments align with financial goals while managing risks.
Cash Flow
All good financial plans must start with where the money is and where it is going. Especially for owners who are responsible for paying themselves, not having clear compensation guidelines can make things difficult. It can be easier for those who pay themselves a set salary each month, knowing their family will live on the same amount each month. But for those with compensation that fluctuates from month to month, hoping that the business will cover their needed income can be a large stressor.
As a result, it is critical to have reserve accounts built into your plan. Emergency funds, money market accounts, and even brokerage accounts can be good tools to help make variable income feel less important. Knowing your numbers is half of the goal of stress reduction. Having a runway of a few months or years in your reserves will dramatically change your level of comfort every time you decide to pay yourself.
Taxes
One of the most important reserves to build for is taxes. Especially for those making quarterly estimated tax payments, these payments could come at a bad time for the business and cause issues if there is not enough cash flow to cover them. Instead, build into the rhythm of the business to put away a certain amount (say 20-45%) of all cash that comes into a savings account dedicated to taxes. Ask your accountant how much you should save, based on your specific situation.
Then begin working with your advisor and accountant on future tax planning strategies to potentially lower your tax liability. This could be restructuring the business, optimizing the QBI deduction, Pass-Through Entity Tax payments, etc. Business owners generally have the most flexibility when it comes to adjusting their taxable income, so working taxes into your business plan can be helpful.
Retirement
One of the most rewarding tax planning moves is to maintain a retirement plan within the company. Many of the retirement plans can offer tax deductions now while allowing you to save money for retirement down the line. Once owners move out of the survival stage and have enough cash flow to start dedicating resources to specific goals, shoveling money towards retirement accounts can be a tax-efficient way to start taking money off the table.
Whatever the goal may be for your retirement, understanding where you are in relation to that goal is important. Many business owners simply rely on their business to sell and send them into retirement one day. However, the probability of a perfect exit occurring may be much smaller than anticipated. On top of that, a $500,000 business sale results in a vastly different retirement than a $5 million one. Instead, focus on what number you want to have when retirement comes, and work backwards from there.
Insurance
Risk management, and specifically insurance, is another foundational financial planning area. Having the necessary insurance policies on both the personal and the business side can hopefully keep unforeseen events from becoming life-altering events. Understand the risks of your business, especially when it comes to Liability, Property & Casualty, Cybersecurity, etc. On the personal side, health, life, disability, and umbrella policies can help when the owner themselves gets hit by life. Buy-sell agreements can be a perfect example of this, where unforeseen events that cause ownership change in a business could keep the business going despite the personal issues of the owners.
Estate
Estate planning is the culmination of risk management and protection. Understanding where everything (or everyone) goes if you are not around can certainly help relieve some financial stress. Having all your affairs in order could not only make life much easier for your family, but also potentially save a lot on estate taxes as well. Work with a solid estate planning attorney to get the basics set up: a Will, POAs, Living Will, etc. Next, start asking whether a trust is right for your situation. For many business owners, a revocable living trust could be a good first step to direct all assets and retain some level of privacy away from probate and the local government.
Investments
Finally, once the foundation is set and risk levels are measured, money that needs to be invested starts to look different. Whether that is reinvesting back into the business, buying stock in a retirement account, or purchasing real estate, the objective of each investment should be to reach your financial goals without taking too much risk. Each investment should be a part of your larger financial plan to help you retire, buy a new business, sell your business, or whatever other goal you set.
Financial Planning
A lot of financial stress is due to uncertainty. That could be from the business, with compensation, or with life events that you don’t know “how serious it is”. Having a solid financial foundation cannot eliminate stress, but understanding where your money is can help provide comfort. Cash flow, taxes, retirement, insurance, estate, and investments are arguably the most important areas to focus on first. Once done, they can be a sounding board for your goals in life and help provide comfort when life hits hard.
TC Falkner 