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By Ellen Roseman
Toronto Star
Money 401
Sunday, May 07, 2006 |
You work your whole life to build your own business. Then, out of the blue, you get an offer to sell at a healthy price.
Adrian Mastracci, investment counsel at Vancouver’s ‘fee-only’ KCM Wealth Management, says, “Look at the game plan you're pursuing. What do you want your future to look like and how do you get there?”
Should you take the money and run? How about retiring to a small Caribbean island?
Before you do anything, take time to consider the tax consequences of selling your business.
There are significant savings if you structure the deal properly. But in most cases, you have to do your homework well ahead of the sale.
Remember there's a $500,000 capital gains exemption on the sale of shares in a qualified small business corporation or farm property.
This $500,000 exemption is still around — even though the $100,000 exemption on other property was eliminated in the federal budget of February 1994.
"If you can make use of the exemption and you can structure the deal to be a sale of shares, you can save considerable tax dollars," says chartered accountant Stephen Thompson in Beat the Taxman 2006 (Wiley, $26.99).
"Be aware, however, that this is an extremely complex area of tax legislation. I strongly advise you to seek out a good tax coach to have in your corner."
Suppose, for argument's sake, that the sale price for your company is $500,000. Half of that gain must be included in your taxable income.
Now multiply that $250,000 by the highest Ontario tax bracket (46 per cent) and you'll see, as Thompson says: "This one idea can save you up to $115,000 in income taxes."
In fact, you can shelter up to $1 million from tax if both you and your spouse own shares in the company. Everyone has this lifetime limit of $500,000.
If you have two children who also own shares in the company, then they each would have a $500,000 capital gains exemption and you could potentially shelter $2 million from tax.
However, if you plan to get your family involved, he warns, "make sure they pay fair value for the shares they purchase or else this planning could be null and void."
Also, they need to own the shares for at least two years before any sale. So, plan this one early.
The $500,000 capital gains exemption is available only if you incorporate your business. And you shouldn't do that before the business is profitable.
Otherwise, it's better to keep the business outside a corporation so you can deduct the losses against your personal income.
When you're selling an incorporated business, another approach is to sell the company's assets. In that case, you won't be able to get a capital gains exemption.
Buyers may prefer to purchase assets rather than shares of a business, accountants point out. This lets them claim a higher capital cost allowance on the cost of depreciable assets.
Patrick O'Connor, a financial advisor, says business owners often wait too long to start their planning.
"The first generation owners delay until they feel the second generation is ready to take over — and by that time, it may be too late."
O'Connor works with clients to help them identify their mission, visions, values and goals. He calls it a discovery process.
With this framework in place, entrepreneurs have less trouble deciding what to do with the payback once they sell the business.
"You've sold the company. Now what? Many people would love to leave a legacy, but don't think they can — even if they get a $10 million cheque for the sale," he says.
You have to decide how much of that wealth is needed to support your own financial independence for the rest of your life.
The next step is figuring out what you want to do for your family members. How much will everyone need in order to be okay?
In the final stage, you look at philanthropy. You may have favourite causes you wanted to help before. Now you have the resources to make a difference.
There's a trend in the charitable world to helping people set up their own endowment funds. These are administered by a third party and created for the purpose of managing charitable donations on behalf of a family or individual.
A "donor-advised fund" is a simpler alternative to a private foundation and can last for generations. The minimum can be as low as $20,000 to $25,000.
Setting up a charitable fund is a good way for retirees to deploy their wealth, O'Connor says, especially if they have time on their hands once the business is sold.
"What do you do with your time? How do you find fulfillment? You can't play golf every day.
"As financial advisers, we try to make people aware of the need to develop a game plan for the rest of their life."
A business owner may be too busy running the company to set goals, establish a mission and understand what his or her values are.
"You can't just open the door and start blabbing about it," he says.
This kind of soul-searching will also come in handy when you're seeking advice about how to invest that nest egg.
"Dream a little. Ask questions: Is this possible? Am I in the right ballpark? Or am I out to lunch?" says Adrian Mastracci, an investment counsellor at KCM Wealth Management in Vancouver.
Most people have conflicting desires about what to do with any extra money. Should they pay off debt, save for retirement, help their children or make charitable donations?
Look at the game plan you're pursuing, Mastracci says. What do you want your future to look like and how do you get there?
Coming up with a plan — and putting your wishes into writing — has another benefit. You can fend off requests for help from those you don't want to support, simply by claiming your money is all tied up in your plan.
Next week, we'll explore the psychological transitions that may go with sudden wealth.
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