Having dealt with entrepreneurs and business owners across a broad range of industries over the years, it is not unusual to come across the following argument:
My business IS my retirement plan.
As such, business owners are not always diligent in contributing to a pension fund, especially in the early days of building the business, and instead rely on receiving a lump sum from the proceeds of selling their company when the time comes for them to move on to the next stage of their life.
However, due to many factors; not all of which are under the business owners’ control; it can be the case that the desired sale price cannot be realised when it comes to the actual point of sale. This could be due to the general economic climate, political uncertainty, or the availability (or lack of availability) of funding at that particular moment in time.
Whilst the pot of gold at the end of the rainbow does sometimes come to fruition, it is advisable to have a plan B. Should the worst happen and your ship be sinking, having a lifeboat ready and waiting is something you will thank your lucky stars (or your financial adviser!) for.
There are many other reasons why building a pension in the background whilst still priming your business for sale is a good idea.
Principally, the IHT benefits of holding funds within a pension to pass down to future generations are significant. If the maximum pension lifetime allowance, which currently stands at £1 million, were to be held in cash or other investments, it would most likely fall within an estate upon death.
The difference in the total value of the estate above £325,000 (or potentially £650,000 for married couples) would be liable to Inheritance Tax at 40%. If held within a defined contribution pension, however, the entirety of the fund could be passed to the nominated beneficiaries, who, on death before age 75 would be able to receive the whole fund tax free as a lump sum or retain the invested funds in their own inherited pension fund for their future benefit from which they could take withdrawals without tax implication during their lifetime. The position is different on death after 75, withdrawals of any amount can be taken from an inherited drawdown fund but taxed at the beneficiary’s marginal rate.
On your death your beneficiaries are able to nominate their own beneficiaries who would benefit from the remaining funds in the same way on their death before or after age 75. This provides an extremely tax efficient way of cascading wealth down through generations.
Additionally, building a pension pot with surplus funds from the business will immediately result in a saving in Corporation Tax on an annual basis. Furthermore, if everything goes wrong and the business were to become insolvent or forced to fold, your pension fund may provide some protection from creditors.
When you are building a business, it is often the case that you will need to re-invest on a regular basis and therefore, you may not be left with a great deal to allocate to funding your pension pot. However, there are multiple benefits to building yourself a lifeboat should you not be able to fund your retirement from the proceeds of a business sale for any reason. Growing a business and funding your retirement do not always go hand in hand, but having a balanced plan that allows for both, whilst also ring-fencing any funds put away from inheritance tax, is worth consideration.
For further advice in relation to pensions, Inheritance Tax or general financial planning, please get in touch with us.
The Financial Conduct Authority does not regulate tax advice.