Part 1 in our video series on Business Management. We’re focusing on the Top Reasons Why Small Businesses Failed followed by videos on “How to overcome these top reasons.”

The statistics are shocking on the number of small businesses that fail in their first year. Sadly only 20% of all new start-ups don’t make it past their first year. 50% close their doors for good within 5 years.

Amazingly, when we look at the Top Reasons why small businesses fail, there is a pattern of mistakes they have in common.

If you’re a business owner, you’re probably focused on the day-to-day tasks with your business.  You may not be thinking about retirement – even if it’s a few years away. But don’t worry, you’re not alone.

More than three-quarters of small business owners don’t have retirement plans for themselves or their employees. Some working Canadians have company pensions or an employer-matching program to help with retirement.

These are generally benefits a small business owner doesn’t have. It’s up to you to plan your future and decide how to pay for your retirement. In this Livestream, I’ll discuss 3 retirement options for Business Owners.

1️⃣ RRSP

2️⃣ Individual Pension Plans

3️⃣ Enhanced Retirement Plan

Financial survival has been top of mind for many business owners since the first lockdowns were declared in March of 2020. Almost 40% of Canadian entrepreneurs are now trying to balance rebuilding their financial health against business needs

How to manage your finances to ensure the continuity of your business?

Here are few cashflow strategies that will help your business survive during time of economic downturn or catastrophic events such as COVID-19.

1. Agility is key

Business owners who are agile can pivot their operations and optimize their sales reducing the impact of the economic slowdown.

2. Lower expenses

Lowering expenditures to reflect reduced revenue can help businesses break even and keep their doors open.

3. Operate safely

Your customers need to be protected and feel safe to do business with you. Your employees must have a safe work environment. Ensure your communications are clearly marked for customers and your employees are well trained.

4. Curtail unnecessary spending

Watching your margins during any reduced revenue period is critical. COVID-19 in a way, has been a live exercise in business survival. Stay on top of accounts receivables and manage your payables to the latest date possible. Negotiate longer payable terms where possible e.g. ask to move from 30 days to 60 days.

5. Plan ahead

OK, this one seems common sense although, when your busy fighting fires it’s easy to get caught up in the “right now.” Some of those fires are showing up because you didn’t plan far enough ahead. Get in front of your problems and forecast further out.

What’s Your Business Interruption Strategy?

Many years ago, we had a 120 seat cafe/restaurant with a liquor license that was extremely successful. Literally a line at the door. So busy in fact, I slept on a cot in the back (closed at 2 am and opened at 8 am) during our 1st year.

When the sun is shinning you’re not thinking about umbrellas!

~ David Aaron

It was August, our busiest month of the year and construction had began in the parking lot to remove an old building to make way for additional parking. The construction company accidentally cut the water main flooding the parking lot. The entire parking lot was closed off and torn up. They piled mounds of pavement, stone and dirt right in front of our business. You actually couldn’t see our business. Sales revenue in August was normally $80-90,000…we did $6,000!

The landlord provided a $1,700 credit towards our lease and do you think that made any difference? We never considered planning for such an event. We had 16 employees, perishable food inventories and just like that disaster!

Planning for the worst case scenario

1. Break-Even Analysis

Add up all your fixed expenses such are lease, salaries, communications, interest and principal payments on loans. Then, divide this by the margin you earn on each sale (usually a percentage).

If you think your business might not earn break-even levels, you may have to consider cutting your expenses to the strict bare minimum. Consider temporarily removing products/services which are unlikely to break-even during this period.

2. Do some “Spring Cleaning”

Time to sell anything you haven’t used a long time and will unlikely ever use it. Such things as, equipment & vehicles. Cash is king here! Examine where you can get short-term financing.

3. Renegotiate fixed costs

For our restaurant, we negotiated with the landlord to reduce the lease over a several months and increase the lease payment during our higher business volume. Examine if this is possible with your business. Heating & Air conditioning is one are to consider. Adjusting the temperature by 1-2 degrees over time reduce your energy bill. While it may be a little uncomfortable, the alternative is far worse.

4. Change Your Pricing

Modify your pricing on items with the highest margin to increase the margin. One example in our restaurant was, in the winter strawberries are very expensive comparative to the summer. We increased our price for a top selling menu item by a nominal amount and removed strawberries from the menu. Instant boom to our bottom line.

5. Flexible Working Arrangements

Can you work from home or move to a co-working space to transform fixed rental costs into variable costs. Can any employees work from home?

6. Pay attention to giving out credit

Scrutinize new clients on their credit worthiness. When sales volume is low you don’t want to take on a delinquent new client. Also keep a closer eye on customers who are falling behind with their bills. Ask for a partial payment to mitigate a larger delinquency – receiving some cash during these times is better than none at all.

7. Establish and maintain strong credit

“But I don’t need credit right now.” Establishing lines of credit is essential in business. Even General Electric ran out of credit during the 2008 financial crisis. Using credit during normal business cycles is good financial management. Having access to credit during economic contraction is critical to business sustainability.

8. Death by a thousand cuts

Pay attention to the small almost invisible expenses. They can add up to quite a bit:

• Subscription services for social media platforms. LinkedI n is $100 per month for Sales Navigator. Perhaps a pause on this and similar accounts is necessary
• Paid advertising – if you have modified your product/services discontinue ads which are promoting those items
• Data charges – If business volume is low do you need to have the highest data package?
• Infrastructure costs – During COVID-19 you’ve been paying for infrastructure to support a business at 80-110% volume when in fact you may have been at 20%. You need pivot quickly to reduce these costs.

Most business owners think about how to save taxes on their personal income by taking Corporate Dividends however, you’re missing out on planning solutions that could save you hundreds of thousands of dollars in taxes and future value of your retirement income.

How often have I talked with a business owner and been informed they only take dividends from their corporation versus taking a salary. Do they also know taking dividends means they cannot make CPP contributions? The argument is that this strategy lowers taxes owing and you negate having to pay CPP premiums.

Let’s contemplate a retirement without CPP. To keep the math simple let’s assume inflation and discount rates are equal. Don’t think the Canada Pension Plan & Old Age Security are important to your retirement (especially with the recent CPP enhancement)? Consider this, the present value of the maximum CPP benefit for a 65-year-old over 20 years is $282,199, and for a couple, that’s $564,398!

By paying yourself a Corporate Dividend, you’re giving up

$564,398 of retirement income!

~ David Aaron

If a business owner does decide to go the dividend route, they should consider how they are going to replace the CPP income. Obviously, that means saving more.

A compromise might be the best solution to try and get the best of both worlds. The business owner could pay themselves a salary equal to the Yearly Maximum Pensionable Earnings ($58,700 for 2020). This way they can contribute the maximum to CPP and create some RRSP room.

They could also save in the business corporation so that the CPP benefit can be replaced by dividends in the future.

What else are you losing out on by paying yourself a Corporate Dividend?

Registered Retirement Savings Plan (RRSP)

Taking a salary also creates RRSP contribution room, which is deductible from your personal income and allows you to save and invest in a tax-sheltered account. While I don’t automatically endorse the use of RRSP’s for business owners, they are a useful retirement planning tool given all other options are exhausted.

Individual Pension Plans

Arguably the most powerful retirement savings solutions for incorporated business owners provided they qualify. Individual Pension Plans provide the mechanism to move cash off the corporate balance sheet which otherwise could be subject to Passive Income Tax, and into your personal pension plan.

The catch here is, you must be incorporated and corporate dividend income does not qualify as income used to calculate your eligible contributions. Only Salary income can be used in the calculation for pension contributions.

One of the key advantages of an IPP (besides increasing your retirement assets by as much as 65 % more than an RRSP) is creating large tax deductions for your corporation. Especially in the case of selling your business, the deductions could wipe out all or significantly reduce the amount of taxes owed to CRA.

Here are a few benefits:

• An excellent way to increase your retirement assets and have your company make large tax-deductible contributions
• Allows for significant additional tax-deductible contributions at inception and retirement
• Tax-deductible unused room (Past Service) contributions from your company, up to $900,000+
• All costs associated with the pension plan are tax-deductible to the company

Tax-Exempt Corporate Whole Life Insurance

Tax-Exempt Corporate whole life insurance could also fit the bill here, giving the corporation access to cash for business opportunities or challenges in the future. The key benefit of using corporately owned life insurance is creating a tax shelter. Moving cash off the balance sheet which could be subject to passive income tax, and into a Tax-exempt corporate life insurance policy. Growth within an exempt life insurance policy will not affect a CCPC’s passive investment income earnings under the new passive income rules.

Long-term planning is required for this strategy to be an effective tool in providing an income stream during retirement or to use as leverage against a loan.

Personal Credit

Finally, having salary income will help you with a mortgage application, if you intend to buy a house. The banks don’t consider dividend income as stable when looking at how much of a mortgage you can afford.

Bottom Line

Once you’ve set aside as much savings as possible inside your corporation, I recommend drawing salary to fund your lifestyle needs. This will maximize your CPP contributions and your RRSP contribution room, along with some of the other benefits mentioned. This recommendation may change in years to come since tax rates are constantly changing, but for now, salary is the clear winner.

From the buyer’s perspective, a business that can show healthy cash flow, that’s well maintained and enjoying sustained growth, is much more attractive.

Canada’s population is aging and Canadian entrepreneurs are no exception. In fact, close to 60% of Canada’s small and mid-sized business owners are aged 50 or older, nearly double the proportion of the overall workforce.

As a result, Canada is in the midst of a major shift in business ownership as the baby boomer generation retires.

Within the next five years, 41% of entrepreneurs in Canada expect to leave their existing business without acquiring another one. This is up from one in three in the mid-2000s. Of the entrepreneurs who expect to leave without acquiring another business, 83% say they plan to retire.

An increasing number of entrepreneurs are thinking about retiring and selling their businesses. With so many sellers on the market, the competition could be fierce, especially for those who haven’t taken the right steps to prepare the sale of their business.

Entrepreneurs could be leaving money on the table

Much like a homeowner putting a house up for sale, any entrepreneur planning to sell a business—typically his or her biggest asset—wants to realize the highest possible return. And, as for a house, careful preparation is an important step that will precede the successful sale of a business.

Unfortunately, many entrepreneurs are not making the best moves to boost the price of their business before their exit.

Among the entrepreneurs looking to exit without acquiring another firm:

• 71% are reluctant to take risks to improve their business’s performance.
• 52% have little interest in expanding their business.

This cautious approach may drag down the market value of these businesses, and could even impact the entrepreneur’s retirement.

Need to track financial performance better

Improper bookkeeping and business owners not leaving enough cash into the business are other issues that can affect the sale price of a company.

42% of business owners who expect to sell to buyers outside the family appear to have done little or nothing to spruce up their financial reporting. Most have also not taken action to maximize cash flow in anticipation of a sale.

These omissions do not augur well for the future value of their enterprises. From the buyer’s perspective, a business that can show healthy cash flow, that’s well maintained and enjoying sustained growth, is much more attractive.

Larger businesses are better prepared

The recent study paints a brighter picture for entrepreneurs in bigger businesses. They seemed to be better prepared for transition compared with the overall sample of Canadian businesses.

For example, entrepreneurs with 20 or more employees were more willing to grow their companies. 63% said they plan to continue expanding their business before selling it, compared with only 48% of all Canadian SMEs.

They also track financial performance better, two-thirds of larger businesses have sound financial reporting in place, and they were more likely to have taken action to maximize profits.

Finally, entrepreneurs with 20 or more employees seemed more preoccupied with the continuity of their businesses. Only 3% of them plan to wind down the business and sell the assets, compared with 22% of all Canadian SMEs.

6 tips to boost the value of your business

There are a handful of fairly basic things entrepreneurs can do that can help maximize the sale price of their business. Unfortunately, we don’t always see these things happen.

Here are 6 tips to help entrepreneurs boost the value of their companies before their exit.

1. Invest and improve right up to the sale

A business that has limited potential due to outdated buildings and equipment is usually worth far less than a firm that has maintained its capital assets.

2. Boost your profits and keep money in the business

The best way to boost the value of your business is to show solid performance and profits in recent years.

3. Keep detailed and reliable financial reports

A three-year audit trail or three years of financial reports prepared under a review engagement will give outside buyers confidence in your numbers.

4. Make your business stand out from the crowd

Strategies for building interest around a business can be as simple as maintaining an up-to-date online presence or having a bank of favourable customer testimonials.

5. Look for buyers outside your local market

Finding serious buyers locally can be a challenge, especially for rural businesses. Consider looking to bigger, urban centres, both for advice and as a source of potential buyers.

6. Get outside help

Consider tapping key advisors, including your bankers, accountant, and lawyer to identify serious prospective buyers. You may also want to hire a consultant who specializes in business transitions.

Planning can help you significantly reduce your tax liability in a succession. Failing to do so could mean the business has to close or be sold. Or perhaps it might have to incur an unhealthy level of debt.

Taxes are one of the main considerations when it comes to family succession. Without proper planning, you can wind up with a larger-than-expected tax bill in a family succession and have no way to pay it.

It’s important to get started early on to structure the transaction in a way that minimizes your tax liability. It can take several years to implement the optimal structure.

Here are the steps to consider. (Note: You should get professional tax advice about your specific situation. Also, rules differ for fishing and farming businesses.)

1) Start early—Consult a tax expert early on about the tax consequences of a succession. Many entrepreneurs wait too long and the transition ends up happening in a crisis—for example, due to a health issue or death. That can lead to lost opportunities to save on taxes.

The worst-case scenario is that the business passes to a child on death, but the family doesn’t have the means to pay the tax on the accrued capital gain.

2) Minimize capital gains tax—Whether you pass on your business in a sale or give it as a gift to a family member, it’s deemed to be disposed of at its fair market value. You are taxed on half the gain in the company’s value (as a capital gain) at your top tax rate. The capital gain is calculated on the difference between the business’s initial share cost and today’s share value.

(There is an exemption for a transfer to a spouse, in which case the gain and tax are deferred until the spouse sells or gifts the business.)

If the business is a qualified small business corporation, you can claim a lifetime capital gains exemption to reduce this tax. The exemption is $824,176 in 2016, meaning a gross gain of up to this amount is tax-free. The exemption is indexed to inflation and, hence, increases each year.

To qualify for the exemption, a company must meet several conditions. For example, it must have been owned by the same person for the past 24 months, and at least 90% of its assets must be used for business primarily in Canada at the time of transfer. See a detailed list of the conditions here and more information on the capital gains exemption here.

3) Consider an estate freeze—An estate freeze is a way to essentially lock in the gain (and capital gains tax) based on the company’s value. A common way of doing so is by exchanging your common shares in the company for fixed-value preferred shares, and then issuing common shares to your children. Any future growth in the company’s value goes to the common shares and isn’t taxed until your children in turn sell or gift their shares. The shares can be held by the children directly or in a trust.

4) Think about incorporating—If you haven’t already incorporated your business, think about doing so. Owners of an unincorporated business don’t qualify for the lifetime capital gains exemption and generally can’t do an estate freeze.

5) Defer taxes—You may be able to defer some of the capital gains tax if you help finance the sale and are being paid over several years. In this case, you may be able to declare the capital gain over the duration of the payments, for up to 5 or 10 years depending on the circumstances.