At a certain point in life, there comes a time to stop working and enjoy your golden years. As a business owner, you might be concerned about retirement as your company relies on your presence to continue operations. In addition, it can be hard to step away from an organization you’ve built during your lifetime. However, business owners deserve the opportunity to retire too! In this article, we’ll explore business owner retirement plans and the unique circumstances to consider.
Table of contents
- What is a retirement plan?
- Retirement planning: How do business owners retire?
- Business owner retirement plan options
- Selling your business: Lifetime Capital Gains Exemption
What is a retirement plan?
A retirement plan is a process of devising a method to stop working. In other words, it’s figuring out what you want retirement life to look like and saving enough money to fulfill that lifestyle. Retirement planning can look very different for everyone depending on their income, their profession, where they want to live in retirement, and much more. As you can see, many factors impact a retirement plan which is why it’s important to revisit your intentions and desired savings often.
Retirement planning: How do business owners retire?
Retirement planning for business owners is unique because it doesn’t always fit the standard mould. Most people work a job for many years and put a certain percentage of their earnings towards retirement savings. Once they’ve achieved the desired amount, they retire from working altogether. But for business owners, it can be challenging to retire because your presence is integral to the business itself. So how do business owners retire? Let’s explore 5 simple steps below.
1) Determine what you want retirement to look like
When most people retire, it means they stop working completely. However, many retired individuals continue to work part-time, and some even volunteer. As a business owner, you don’t have to resign from your post altogether! Chances are you love what you do so you can take a step back from operations when you retire, but continue your involvement. In addition, continuing to run your business on a casual basis can provide a source of income while you step back from operations. On the other hand, if you’d rather enjoy a work-free life, that’s an option too!
Either way, take the time to set goals for your retired life. From there, you can work backwards to determine how to achieve your goals. For business owners, a major component to consider is your ongoing business involvement past retirement, but you should also consider other aspects of your lifestyle too. For instance, where you want to live, what recreation you want to participate in, how close you want to be to friends and family, and so on.
2) Map out retirement savings and income
Once you have an understanding of your retirement goals, it’s time to quantify them. How much money do you need to save to comfortably retire? What will your budget look like in retirement? You should consider how much savings you have presently, how much you need to save and what your income will look like when you retire.
If you aren’t already, you should consider taking a salary from your company. By doing so, you will become eligible for Canada Pension Plan (CPP) payments in retirement. In addition, a pay cheque from your company can go towards your nest egg. Lastly, withdrawing a salary can continue once you’re retired so you have a source of income if you choose to keep your company intact. You should also consider your eligibility for the CPP and how much you expect to receive. Also, consider how much you’ll receive from Old Age Security (OAS).
At this stage, it can help to use retirement planning calculators. When you’ve quantified your goals, begin saving and working towards the magic number!
Related Reading: When it comes to saving for retirement, how much is enough?
3) Use the financial tools available to you
In Canada, we are fortunate to have access to powerful financial tools which help us save for retirement. The main ones are the Registered Retirement Savings Plan (RRSP) and the Tax-Free Savings Account (TFSA). Even as a business owner, you should make an effort to contribute to your RRSP and TFSA throughout your career. If you can, contribute up to the maximum amount each year and invest your savings. Over time, your investments will grow which will help finance your retirement. If you max out your RRSP and TFSA contribution room, continue to save using a non-registered account.
As mentioned in the last step, it’s wise to take a salary from your business as the owner when planning for retirement. Another reason for this is increased RRSP contribution room. The amount you can contribute to an RRSP each year is based on your earnings. If you don’t withdraw a salary, your personal earnings will be lower, possibly even zero. Don’t forget, RRSP contributions provide beneficial tax deductions too.
As a business owner, you likely want to reinvest the profits from your business to grow further rather than putting it aside for retirement. But remember it’s important to pay yourself first otherwise all your hard work may not even allow you to retire!
Keep in mind there are other financial tools you can use to plan for retirement as a business owner. For example, you may consult a financial advisor or wealth manager to discuss strategies to build up your nest egg and figure out what will happen to your business when you retire.
4) Sale, wind down or restructuring of business
If your plan for retirement is to stop working completely, you will also need to devise a plan for what will happen with your business. Unfortunately for business owners, it’s not as simple as putting in a formal resignation! Rather, you will need to sell or wind down the business. This process can take a lot of time, sometimes as long as a year or more. Be sure to factor this aspect into your retirement plan. If you choose to sell and find a buyer, you will receive a lump sum of cash which can be put towards your retirement. Be sure to factor this into your financial plan. Unfortunately, winding down the company doesn’t have the same outcome.
For those who want to continue their business operations in retirement, you will still need to devise a plan on what will happen when you take a step back. This could be grooming a successor, hiring and training new personnel to take over your responsibilities, or downsizing the company. This restructuring process also requires planning which can take a year or longer to execute.
The important takeaway here is to devise an exit strategy from your business. However, you envision that to look, create a plan on how you will execute it and when you should begin the process.
5) Revisit, execute and retire
Now you have a business owner retirement plan! Every so often, you should revisit the plan, especially if there are still several years ahead of you before you retire. The activity in your business can change over time which means you may have to revise your retirement plan accordingly. For example, if you earn more income in a particular year, try to invest more into your retirement nest egg. Or if you find a buyer of your business early, maybe you can retire earlier too.
After devising and revising, all that’s left is to execute your plan. When you’ve met your savings and business goals, you can finally kick back and enjoy retired life!
Related Reading: Building Wealth in Retirement
Business owner retirement plan options
Business owner retirement plan options fall into two broad categories: businesses with employees and businesses without employees. Otherwise, the retirement planning process for business owners is similar to anyone else – work towards your retirement savings goal and devise a plan for what retirement will look like for you. Let’s explore the nuances of business owner retirement plan options below.
Best retirement plans for small business owners with employees
When you have employees in your business, it can be a lot more challenging to step away from operations. Your staff needs a leader and without you there, it can be disastrous for operations. In addition, your staff relies on your business for a salary so it can be disheartening if they lose their jobs. As a small business owner with employees, you have the following options when it comes to retiring from your business:
- Sell your business. Selling your business is a great way to earn a lump sum of cash for your retirement while preserving your employee’s jobs.
- Wind down your business. When you wind down a business, you are dissolving all operations and the overall existence of the company. This will involve laying off employees, among other tasks, like selling equipment and assets. It’s advised to give your employees plenty of notice so they aren’t left jobless unexpectedly. Also, winding down a business involves paperwork and filings which takes time and sometimes the help of a professional.
- Groom a successor and/or hire new staff. If you want to continue business as usual, but take a step back from operations, your retirement plan should include a strategy on how to do this. In most cases, it involves hiring and grooming a successor. Alternatively, it could be hiring and training new staff to take over your responsibilities. This process can take time to implement and perfect so be sure to factor that into your plan.
- Downsize operations. If you choose to remain involved in operations, but to a lesser extent, you can downsize operations. This could involve letting go of some of your employees and clients. It could also involve shutting down certain locations and selling the equipment and other assets. If you choose this option, be sure to consider what you want your working life to look like in retirement and work towards it.
Best retirement plans for small business owners without employees
If you don’t have employees in your business, the main thing to consider is what will happen to your customers. As a small business owner without employees, you have the following options when it comes to retiring from your business:
- Sell your business. Even as a one-person show, you can sell your business. However, it can be more of a challenge because much of your business is dependent on you. If you have spent your career building something that can be sold, perhaps a client list or an online platform, then you have good odds of selling your business. Otherwise, you may have to explore other options.
- Wind down your business. Winding down your business will first involve handing off clients or shutting down operations. You should also sell business assets you will no longer be using. Once that part is done, you can begin the legal process of winding down your business. If you are a sole proprietor, you don’t have to legally wind down the business, this only applies to partnerships and corporations.
Related Reading: Retirement Business Ideas
Selling your business: Lifetime Capital Gains Exemption
If you sell your business, you have access to the Lifetime Capital Gains Exemption (LCGE). This is a special tax benefit available to individuals who sell a business to protect them from unreasonable taxation. In other words, it reduces or eliminates the tax burden related to building and selling a company so Canadians are not deterred from starting a business in the first place.
To be eligible for the LCGE, you must have disposed of qualified small business corporation shares (QSBCS). Unfortunately, the LCGE isn’t available to sole proprietors or partnerships. In addition, these are the other requirements:
- Must be a small business corporation at the time of the sale
- It must be a share sale (not an asset sale)
- The sold shares must not have been owned by anyone other than yourself or someone related to you in the 2 years prior to the sale
- More than 50% of the business’ assets must have been used in an active business for 2 years before the sale in Canada
- There are other requirements, consult a professional if you’re unsure of eligibility
The LCGE has a cumulative limit of $892,218 in 2021. However, only 50% of your capital gain from disposing of shares is taxable, which means $446,109 (half of the limit) is available to you. If your company is a qualified farm or fishing property (QFFP), the LCGE cumulative limit is $1 million, or $500,000 with the 50% rule applied. The LCGE is cumulative which means you can apply for the tax credit multiple times until you’ve reached the limit.
Lifetime Capital Gains Exemption Example
Let’s take a look at an example to demonstrate how the LCGE works. In 2010, Flora started a consulting company. She incorporated her business in 2010. At this point, the cost of her shares would be $0. Flora held onto her shares and built her company over 10 years. It is now 2021 and Flora receives an offer from a rival company to buy out her shares for $1,000,000. Flora accepts the offer. She has never claimed the LCGE and makes a claim on her 2021 tax return. Here’s the calculation of her taxes:
|Share Sale Price||$1,000,000|
|Adjusted Cost Base||$0|
|Capital Gain||$1,000,000 ($1,000,000 – $0)|
|LCGE for 2021||$892,218|
|Net Capital Gain||$107,782 ($1,000,000 – $892,218)|
|Taxable Capital Gain||$53,891 ($107,782 x 50%)|
Flora would report $53,891 on her tax return under capital gains. The final amount of tax she owes depends on her tax bracket.
As you can see, Flora saved a ton of tax on the sale of her shares through the LCGE! Without it, she would’ve had to pay tax on half the sale price which would be quite costly.
In this article, we’ve explored various retirement plan options for business owners in Canada. But at the end of the day, planning for retirement is very personal and looks different for everyone. As a business owner, retiring can be a unique experience. Whatever you envision your retirement to look like, create a plan to get there and work towards it!