It happens all too often – financial advisors spend their entire careers helping clients achieve their financial goals. But when it comes to preparing for their retirement, they can often overlook a critical element until it’s too late – their succession plan.
Vantage Impact CEO Boston Cardinal says it’s one of the biggest challenges he sees advisors facing. “They are quickly realizing that succession planning is kind of like insurance. It's not important until you need it. And up until that point, it's a really easy thing to neglect.”
Paul Lally, who is the lead partner of the Wealth and Asset Management Industry Practice at Wifpli, LLP. a national accounting and consulting firm has noticed a similar trend. “I've seen too many advisors over the years wait too long. I've seen the advisors or their heirs not receive what they should probably receive for the equity within that business.” He has also worked with many advisors who have unclear or unrealistic expectations about the pace and level of work they want to do as they edge toward retirement.
It’s really about making sure they are creating a transferable entity during the businesses lifecycle and not waiting to the last minute to plan or hope their business can be transitioned,” Lally said.
It’s no wonder advisors procrastinate succession planning. It can be an overwhelming process!
Let us help you by breaking it down into some key considerations.
“I'm smiling because usually my joking comment back is ‘the day you start the firm,’” Lally said.
“Or at least five years, typically, in advance. It's like taking a trip. If I'm taking a trip with my family and I have a year to plan, then I'm getting everything I want! I'm getting the hotel, the car, the airfare, the restaurants - all of it. With that said, I can wake up on Friday, and still take that trip on Monday. But now I've narrowed my options immensely,” he continued.
Generally, there are three major scenarios for a financial advisor in transition:
There are very different sets of considerations and tax implications based on your current status. If you are 5-10 years away from retirement at a large firm and are planning to sell your practice back to the firm when you retire, we recommend you start researching your firm’s succession process and options as soon as possible.
“Advisors step out because they want freedom,” Lally says. “They want freedom of income; they want freedom to build wealth; they want freedom of time.”
If you are planning to make a shift to independence, you have the opportunity to sell in the open market and possibly structure your deal as a capital gain as opposed to ordinary income, and the cost differential can be significant.
It’s not all about the gains
While financial drivers like ordinary income vs. capital gains are important, “It's also the non-financial characteristics that are either going to enhance your value or decrease your value,” Lally said.
“What I tell a lot of advisors is that it’s not just the price that you sell your practice at, but it's also the terms and the optionality around it,” Cardinal said. “How is the deal structured? Is this going to be a sudden retirement or gradual? Are you going to phase back the number of hours you work?”
If you are planning to go independent in your last 5-10 years of your career, you need to think about more than just the tax benefits and income. What will the structure of your practice look like?
“More often than not, we see people who want to gradually scale things back rather than hit an off switch. It should be a dimmer switch,” Cardinal said.
Moving to sell
There is another scenario that advisors should think about when researching and discussing transition deals. If you’re planning to leave your firm, then you may be able to capitalize on both ends of the transition. Advisors who are in a situation of feeling dissatisfied with the firm they are at and hope to find a better platform for their business are finding the market is offering appealing overall compensation packages when factoring in recruiting deals and pairing them with eventual succession packages.
“In addition to earning their annual take home pay, financial advisors are receiving 500 -700% + of their T12 over a 10-year period,” said Cardinal. “The big thing here is, when looking at new firms it makes a lot of sense to do some due diligence on how succession plans get structured.”
If you have owned your firm for many years and have been a one-person or tiny operation, Lally says it’s really important to distinguish between selling yourself as an advisor and selling your business.
“They have to get to a point mentally, where they're thinking, ‘Am I passing on my business? And have I really created a business?’ That's the key,” he said.
Your firm has been your baby for years. You own the relationships. You drive the strategy. You know the ins and outs of everything. But at the end of the day, it is a business. And is your business one that can be operated and grown by someone else? Once your business is sold will something sustainable still exist, or does it cease to exist when you leave?
The average age of financial advisors today is mid-50s, with many still working into their 60s and 70s. Lally says that “most advisors resemble their clients,” and that this can be a challenge when transitioning your practice.
“If I'm a 65-year-old advisor, I likely have 65-year-old clients who are now no longer in the accumulation phase and are actually in the distribution phase,” Lally said. “Where advisors really get hurt in transactions, is they're now trying to transition to a mature practice. And the buyer thinks ‘I can babysit this for years. But I can't grow it anymore.’”
“If an advisor’s business is built on referrals, and the advisor manages all the relationships, then, as a buyer, what am I actually buying? I'm buying a revenue stream. But how valuable is that revenue stream, and for how long?” Lally continued.
Positioning for growth
If you resemble the majority of your clients - aka nearing retirement - then your firm needs growth opportunities internally and on the client side.
Here are some ways to diversify your clientele and position your firm for growth in the long-term:
So what if you’re ready to sell and you’ve already found an interested party that you feel is a good match to purchase your business? You’re going to need the right tax resource to help you structure the sale in a way that's fair, but also safe.
Lally says advisors often come to Wipfli when they don't want to go out to the market. They already have a buyer in mind but are not experienced in evaluating, negotiating, structuring and facilitating the transaction.
“Under our Wealth and Asset Management Industry Group, we provide hourly consulting to advisors on an as-needed basis to help them through the process, whether that's interacting with the buyer, helping them think through the documents and contracts needed, or whether it's helping them with tax structure,” Lally said.
So whether you are a W-2 advisor at a major firm, leaving a large firm to start an independent practice, or an independent advisor selling your business, it’s important to focus on your own future and succession plan.
This is one of the most crucial steps you can take as a financial advisor and has ramifications for your future and your clients’. Let us simplify the process for you. Reach out to us today to discuss succession planning for your business.