Retirement planning for business owners is complicated. You can start a 401(k) plan at your company, but there are strict limits on how much can go into your portfolio. You can use the money to invest in stocks outside of the company, either in an IRA or a traditional brokerage account, but that’s cash you’re taking out of the business.
Investing in real estate is the best way for you to keep money in the business while diversifying your portfolio for retirement. You can reduce your company’s holding costs while setting up an asset for your retirement. Let’s walk through the three steps you should take to use real estate for retirement.
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1. Buy real estate
The first step is the most obvious: buy real estate. For many businesses, it makes sense to buy real estate instead of leasing. Not only do you build equity in an asset instead of spending money on lease payments, but you retain the tax benefits of depreciation and interest.
Here’s a question you might have about whether it’s worth buying real estate if you run your business easily from home. This is a good question and you need to evaluate your options. If your business generates enough cash flow to easily make lease payments, I think it’s worth it.
First, businesses that you can easily run on your own usually don’t translate into high sales prices. If you buy real estate to work, you can use the cash flow from the business to build an asset with some tax benefits.
Speaking of tax benefits, having a property where you work will make your taxes much easier. Setting up a home office is great, but there are so many rules about what you can do in the home office and what percentage of your household expenses can be deducted that you can get a migraine just thinking about it.
Buy a property, work in an office there most of the time, lease out the extra space, and then you can write off every expense on the property and keep the property for income when you retire. win-win
Once you’ve decided to buy, it gets more complicated. Establish an LLC to be a holding company for real estate. You want to separate your real estate ownership entity from your business owners. Not only is this a good practice for insurance and liability purposes, but it will make it easier to sell the business and keep the real estate.
Find a lender familiar with the process (they all should be) and execute a long-term lease between the operating company and the holding company.
2. Pay off debt
Often real estate investors make most of their money by paying off debt. You put as little money as possible in the down payment and then ask a tenant to pay off the loan. This will still be true for you even if it’s one of your companies paying off the debt for another.
That’s because you’re replacing a lease payment to a third party with a lease payment to yourself — regardless of how the business is paying, so you can also use it to pay off debt on income-producing assets you own.
3. Sale and Retirement
I was a business banker for many years, so I understand the complexities involved in selling a business. Most of the time you will be forced to sell it for much less than it is worth.
Banks will want as much collateral as possible, so they will want to include as many assets as possible in the sale. This is where you have to make a decision. If you sell the business and the property, you may be able to work out a nice premium for both and use a tax strategy known as a 1031 exchange to shift the proceeds of the real estate sale to another income-producing asset.
If you are willing to sell the business to a buyer on an installment payment basis, things can be simpler. The seller pays you regularly for the business, gives you a stream of income and allows you to avoid tax hassles. You can hold onto the real estate, enter into a lease with the new business owner, and increase your gross income.