Why Pension Planning is Essential for Business Owners

As a business owner, you have control over your hours, income, and the people you work with. You can decide to scale the business and sell it, or keep it small and manageable.

But this also means that you don’t have an employer to set up a pension for you or to make sure your family are protected if the worst happens. You need to arrange these yourself, and to factor the costs into your business plan.

While business owners may be experts in their own field, creating a suitable financial plan often isn’t a priority, especially in the earlier (and busier) years of running the business. Many entrepreneurs wait until later in life to start planning, by which point, options are more limited.

In this guide, we explain why pension planning is essential for business owners.

It Can Save You Tax
Pensions are the most tax-efficient way of saving for retirement, providing you remain within certain limits.

Contributions made from the company are normally an allowable expense against corporation tax. There is no specific cap on the amount, and your contributions are not limited by earnings. However, your contributions do need to be deemed reasonable and ‘wholly and exclusively for business purposes’ by the local inspector of taxes.

You don’t pay income tax or National Insurance on pension contributions, which means they offer a highly tax-efficient way of drawing profits out of the business.

Your contributions are subject to the annual allowance. This means that if your contributions (personal and employer) exceed £60,000 per year, you could face a personal tax charge. But if you have been a member of a pension scheme and haven’t used your full annual allowance, you can carry forward up to three years’ worth of allowance from previous tax years. Making larger ad hoc contributions can sometimes suit business owners if they have accrued profits in the company.

If your spouse and/or children work in the business, you can also contribute to pensions for them. This must be a genuine employment benefit and the contributions should be proportionate to their role – otherwise it could be seen as tax avoidance.

When your pension fund is invested, all income and gains generated within the funds are tax-free. This means that your pension might grow more than other types of investment.

It Provides a Back-Up Plan
Many company owners plan to use their business to fund their retirement. Perhaps you intend to sell it and live on the proceeds. Alternatively, you might prefer to have someone else take over the daily management and to continue taking an income.

Sometimes things don’t go to plan. You might not achieve the sale price you need to sustain your lifestyle, or perhaps you will need to step back earlier than you intended for health reasons. Stepping back from the business means you may not have as much control over its future success, particularly if you have additional staffing costs.

Building up wealth outside the company can help to reduce these risks, as regardless of what happens with the business, you will have a pot of money to fall back on. Pensions are the obvious choice, but ISAs, bonds, investment accounts, and buy to let property can all form part of the plan. The earlier you start planning, the better.

It Can Give You More Flexibility
Retirement can be a tricky subject for business owners as they have a personal stake in the company they have built up. Few entrepreneurs are happy to sell up and step away at short notice. Additionally, when you sell your business, you may receive the proceeds over a number of years, and the contract might require you to keep some involvement.

Similarly, if you pass the running of the business on to someone else, you might need to reduce your income to cover the additional salary.

Retirement is rarely a fixed event for business owners, and is more likely to involve a transitional period.

Pensions are extremely flexible, and give you the option to supplement your earnings before transitioning to full retirement.

You can take a 25% tax-free lump sum from your pension, as well as a flexible income. This will be taxed at your marginal rate. You can start, stop, and vary the income as required. Once you are fully settled into retirement, you can continue taking a flexible income or you can use your remaining pot to buy an annuity – this provides a guaranteed income for life.

Having this additional flexibility means that you are in a stronger position to make decisions around your exit from the business.

It Can Make Things Easier for the Next Generation
Creating a legacy for your family might be one of the reasons you set up the business in the first place.

Perhaps your children will take over the running of the business, or maybe they will take their own paths. If you have more than one child, they might choose different routes.

If your business is your main asset, this can make estate planning tricky. In most cases, shares in a business can be passed on free of Inheritance Tax, but only if it is trading and not in the process of being sold.

Pensions are also outside the scope of Inheritance Tax. Benefits can be passed on free of tax if you die before age 75. After age 75, beneficiaries simply pay tax at their marginal rate, and only when they withdraw the money. Pensions can be passed through multiple generations tax-efficiently.

Building up your pension, as well as your business, can help to ensure fairness and provide flexibility in your estate plan.

A financial planner can help you balance your business with your personal financial plan, helping you achieve success with both.

Please don’t hesitate to contact a member of the team to find out more about retirement planning.