It’s a common tale. A small business owner has devoted his life to building his company. He’s put every dollar he has into it and, in return, he’s done an excellent job of providing a nice living for his family and his employees. But then retirement appears on his horizon, and he realizes that he’s saved too little to retire comfortably or leave something for his heirs.
Usually, the only real course of action is to make the most of the existing assets. It can mean taking on more risk than is prudent to eke out slightly higher rates of return. Or worse, it can require harvesting cash out of the business in ways that leave it weak and reduce its sale value.
Cash flow as an asset
Another set of tools has emerged that let financial advisors and their business-owner clients get back onto plan by unlocking value that is stored in the business. Most companies don’t realize that cash flow-income from the sale of products and services as well as lease or rental income-is an asset that can be leveraged for a legitimate business purpose, including funding the owner’s retirement.
By allowing the business to borrow money to fund an annuity or universal life policy, the business owner can “front load” his retirement savings and, through the might of compounding interest, have a much better chance of reaching his goals without undermining the health of his business. It’s also a cost effective and tax-efficient way to move money out of the business and into the owner’s control.
Consider the case of the restaurant owner. For the last 15 years, this businesswoman has successfully built a restaurant franchise group with multiple locations across the city. But while she paid close attention to the demands of the business, she ignored her retirement planning. Her current retirement savings were significantly behind her ultimate needs.
To supplement her retirement savings, the franchise owner and her financial advisor allow the business to take out a simple, interest-only loan for the benefit of the business owner. The owner, in turn, fully funds an annuity with a face value of $1 million.
While the annuity enjoys compounding growth, the business makes level interest payments for the length of the loan. The loan is secured by an assignment of the fully collateralized policy and perhaps a general UCC1 filing. Some groups may also use the business’s accounts receivables or the owner’s personal guarantees as collateral.
In some (but not all) cases these payments may be considered a tax-deductable business expense. This deal takes only 27 days to complete.
When the loan comes due, the client will still be able to sell her healthy restaurants, retire the note from a side fund or arrange other means to pay it off. Meanwhile, the annuity will provide the supplemental retirement income the owner needs.