In any industry, preparing for a liquidity event requires a great deal of strategic vision and technical expertise. The earlier you start mapping out your vision for what you want to achieve financially and understanding your resources, the more flexibility and leverage you have in shaping the outcome. For those that are in the pre-transaction phase, or have secured first or second round funding, there are specific items to consider:
Work Optional Lifestyle
Determine your “numbers” and think about where you want your wealth to go: work to articulate your desired lifestyle post-liquidity event and then determine the amount of wealth needed to achieve that vision. Whatever your goals— retiring early, buying a vacation home, spending more time traveling, or funding your children’s college education— you need to quantify the cost of those goals and then determine the present value of the assets needed to fund this lifestyle. Essentially, all of your wealth will end up in one of four buckets: funding your lifestyle, transferring wealth to your children and other loved ones, supporting charities or paying taxes.
What if Scenarios
Test your assumptions (scenario planning): perhaps the biggest variable in planning for a liquidity event is the valuation of your equity. To help you understand the range of potential outcomes, we recommend that you have your advisors run calculations to show how much after-tax wealth you would receive under best-case, base-case, and worst-case valuations.
Understand your executive compensation package: technology entrepreneurs and executives often receive multiple forms of compensation, including traditional equity, stock options, restricted stock, employee stock purchase plans, deferred compensation, and life insurance. Each of these forms of compensation has a unique set of tax consequences, downside risk and upside potential when it comes to generating liquidity.
Take advantage of valuation discounts: one of the most powerful pre-transaction planning strategies has to do with the fact that your equity likely will have a lower valuation before the transaction than the valuation used for the transaction. By transferring equity to children or other loved ones before the transaction valuation has been determined, the subsequent appreciation occurs outside of your estate, increasing the amount that you can transfer to loved ones without incurring estate tax. Many business owners choose to make these transfers through a grantor retained annuity trust (GRAT). Transferring shares to take advantage of the valuation discount, however, isn’t without risk. If the transaction valuation ends up being higher than you anticipated, then you may end up transferring more wealth than you intended. Conversely, if the transaction valuation ends up being significantly lower than you anticipated, this may mean that you didn’t retain enough wealth to fund your lifestyle goals.
When selling a business or going through a certain liquidity event, you may lose health insurance coverage. Finding coverage on your own can be stressful, but there are considerations to be aware of such as where to find a plan, what to look for in a plan and costs and coverage associated with each plan. For a good summary of considerations, you can read our health care whitepaper here.
Callan Capital does not provide individual tax or legal advice, nor does it provide financing services. Clients should review planned financial transactions and wealth transfer strategies with their own tax and legal advisors. Callan Capital outsources to lending and financial institutions that directly provide our clients with, securities based financing, residential and commercial financing and cash management services. For more information, please refer to our most recent Form ADV Part 2A which may be found at http://www.adviserinfo.sec.gov.