Business Matters – Issue 22

1. A smooth succession

The decision to hand over your family business is a tough one, and passing the baton is fraught with challenges. PwC found that 82% of owners said that ‘protecting the business as the most important family asset’ was their top long-term personal goal.³ Despite this, surprisingly few have a formal strategy in place – just 30% have started succession planning, while only 51% have a documented vision and written purpose statement.⁴

One of the key decisions is whether the next generation is able to take over running the business. While it might seem the right thing to do, it can often be the wrong decision for the company. It can often pay to bring in accomplished outside executives to bridge the gap and run the business while the next generation – should they want to be involved – learns the ropes before taking over.

Succession planning is not a one-off event and should be a process over a long period of time. Getting prepared and talking to your family and your Wellesley adviser will ensure you’re properly organised.

2. Looking outside the family

Don’t despair if you can’t pass the business on to your family – despite the emotional attachment, it might not be a bad thing if you can’t hand your business on to the next generation.

It can often pay to bring in business talent from outside the family when you’re thinking about an exit – an outsider might bring a fresh perspective. Here are some alternative routes to think about, when there’s no obvious family successor:

• Management buyout (MBO) – This involves the company’s existing management pooling their resources to buy out the owner. It can be the right course of action if you have a settled management team whom you trust to take the business forward in a positive direction. An MBO can ensure a smoother succession than selling to an external buyer because you know the team and believe in their abilities. Many founders will remain connected to the business through shareholdings or in an advisory role.
• Employee Ownership Trust (EOT) – This is an increasingly popular option for entrepreneurs, and is essentially selling the business to their employees. This can be a reward for hardworking staff and can give you peace of mind that the business remains in safe hands. There are also some appealing tax benefits when selling to an EOT, as disposals to the trust can be made free from Capital Gains Tax and Inheritance Tax, while employees can receive tax-free bonuses from the EOT.

However you’re organising your succession, speak to us for advice.

The levels and bases of taxation, and reliefs from taxation, can change at any time. The value of any tax relief depends on individual circumstances.

3. Is an earn-out for you?

Of course, even if your SME isn’t a family business, who you choose to hand over the reins to is still important. Earn-outs are a common structure agreed between buyer and seller to – in theory – ensure a smooth transition between owners. While entrepreneurs often find these agreements can be an effective way of moving on from their company while maximising returns, there are also several problems you might encounter.

The most important part of an earn-out is to create a structure you’re comfortable with, so work with us to build something that suits you and your future plans before discussing with the buyer. When negotiating the structure of an earn-out, it’s vital to ensure that the initial payment is enough to set you up for whatever you plan to do next, whether that’s retire, start another business, secure your family’s future or just pay off your mortgage. The other payments can improve your circumstances but should never be taken as certain future income.

We can help you make the decisions that are most beneficial for you and your family’s finances.

4. What next?

If you’re thinking of selling your business, you’ll understandably be focused on preparing for the exit itself, but it’s worth keeping an eye on what happens after. This will help you maximise the proceeds from the sale of your business and bring financial security to you and your family.

Thoughts might turn to sun-kissed beaches, but the first thing on the agenda should be preparing for your post-business life before the exit takes place. We’ve already touched on Business Relief, and the fact that owners have 36 months from the sale to reinvest the proceeds. But there are other things to think about:

• Income after the sale – Consider how much you require each year for the life you and your family wish to lead, always bearing in mind current taxes such as Income Tax and Capital Gains Tax, as well as future taxes such as Inheritance Tax (IHT). The questions you should be asking yourself include ‘How can I use that cash to create a retirement income for me and my family?’, ‘Have I got enough?’ and ‘How much can I take from it without eroding the capital?’ and ‘How can I do this in a tax-efficient manner?’.
• Trusts – Putting your exit proceeds as a gift into a trust for your children can help protect your money and your family. If you live for seven years after doing so, the gift will be free of Inheritance Tax (IHT). Trusts are a good way to protect your business sale proceeds from adverse events and can be set up for friends or family. The trustee makes the decisions about what gets paid out and to whom. Your Wellesley adviser can discuss the different types of trusts with you – bare trusts, discretionary trusts, loan trusts and discounted gift trusts.
• Replacing protection insurance policies – This is more for those who might sell a business when they’re a bit younger in life and have a growing family to protect. Often owners will set up their protection through their business, such as life or illness insurance. So, if they were to die, the policies would then pay out to their family. When they sell up, those policies very often come to an end and, therefore, they should think about putting in replacements.

Wellesley can advise how to extract the most value from your business to help you secure your future – and that of your family.

Case study: It’s never to early to start planning your retirement

Fred is thinking about selling his limited company business as he’s approaching retirement, and has approached a financial adviser for the best way to do this.

His business has been valued at £2 million. He hasn’t saved into his pension for the last four years, and he’s only drawn PAYE earnings of £12,570 and minimal dividends over the last few years, so he wants to know what his options are.

His first option is that his business will receive £1 million worth of Business Asset Disposal Relief (BADR), which means his business will be subject to 10% tax. The further £1 million will be subject to Capital Gains Tax, which will mostly be taxed at 28%.

The second option is – as he hasn’t made any pension payments for the last few years – his business could make contributions up to £160,000. Subject to the accountant agreeing, this could provide Corporation Tax relief.

If Fred‘s wife, Sarah, has a share of the business and has held those shares for at least two years, the business sale proceeds could be allocated proportionately – and therefore they can each use their BADR allowance in relation to the holdings, thereby reducing any potential Capital Gains Tax liability. So if she held 50% of the shares, she could use her £1 million as her BADR allowance. Pensions could also be used for Sarah, subject to the wholly and exclusive rules.

It’s never too early to start planning your exit strategy – making regular pension contributions and reviewing the company structure is very important in the long term. As this case study shows, every business owner is different, and one of the strongest benefits of financial advice is helping each individual plan for a secure future.

5. Moving on

Selling your business is one of the biggest decisions you’ll ever have to make, so it’s vital to work with advisers who have been through it all before, and have the experience to guide you through the process.

If you’re wishing to leave your business in 2022, amid the current economic challenges, it’s important to plan your exit strategy carefully to gain control of your financial future. There’s a current focus on financial well-being, and by being prepared and proactive, you can make things easier and gain a sense of control.

Here at Wellesley, we can review your personal finance plan with you, help you navigate towards a successful exit and ensure good financial planning post-exit.

Whatever life after an exit holds for you, you can look forward to the future, with Wellesley.

The value of an investment with St. James’s Place will be directly linked to the performance of the funds selected and the value may fall as well as rise. You may get back less than the amount invested.

The levels and bases of taxation, and reliefs from taxation, can change at any time. The value of any tax relief depends on individual circumstances.

Business exit planning may include the referral to a service that is separate and distinct to those offered by St. James’s Place.

Business Relief qualifying investments are illiquid investments, subject to future and retrospective tax changes and as such are suitable only for experienced, sophisticated or high net worth investors who accept that they may get back significantly less than the original investment.

Trusts are not regulated by the Financial Conduct Authority.

Sources:

^1,3,4 10th global family business survey: from trust to impact: why family businesses need to act now to ensure their legacy tomorrow, PwC (Based on 2,801 online surveys of owners and executives conducted in 87 territories between 5 October and 11 December 2020)
² How to Enhance Long-term Business Value Through Sustainability, EY, July 2021