Your Business Is Not Your Pension: Why Every Business Owner Needs a Separate Pension Plan

Some business owners have a belief that their business is their pension.

But is it? Research from Investec* found that 83% of family-run business owners are relying on their business to fund their retirement. After years, sometimes even decades, of building something from the ground up, it’s understandable to view the eventual sale as the natural gateway to a well earned retirement.

While this approach can work for some, it still carries risk. There may be a smarter, more tax-efficient way to maximise the value of your business while still enjoying the fruits of your labour.

* Investec Wealth & Investment commissioned the market research company Pureprofile to interview 100 family members involved in the running of their family business during October 2023.

Running your own business gives you autonomy and flexibility. You decide what you do and when you do it. You get to decide the path your business takes and when to stop. For many business owners, the plan is simple. Build the business, sell it when the time is right and use the proceeds to fund retirement.

But there is a problem with this. What if the time is never ‘right’? What if the buyer never comes?

There are risks involved when being wholly dependent on your business as your retirement plan.

Conditions might not be right when you come to sell, or your industry may be declining. Timing your exit perfectly is easier said than done.

Your business is likely to be worth more to you than it will be to a buyer. You’re emotionally invested. You built it from the ground up. A potential buyer didn’t. Where you see tried and tested processes that work perfectly for you, they may see liabilities and outdated systems.

The business may be dependent on you. If you were gone, would your customers stick around? This is one of many questions a potential buyer would want answered before buying your business. If they don’t like the answers, they might not meet your asking price, derailing your retirement plans.

Even if a buyer is found who is willing to meet your asking price, payments may be staged over several years. What happens if the new owner fails, taking your retirement income with them?

Given all these risks, it’s worth asking this question. Why not begin extracting value now, in a structured and tax-efficient manner?

One way to mitigate these risks while you still own the business are pension contributions.

Pension contributions are deductible business expenses. This assumes they meet HMRCs requirement that such contributions must be made “wholly and exclusively” for the purposes of the trade. With the current UK Corporation Tax rate up to 25%, that’s a direct saving.

Unlike when drawing a salary, pension contributions are not subject to National Insurance either, making them an even more tax-effective way of extracting money from the business.

Once the funds are within the pension wrapper, you do not pay Capital Gains Tax on investment growth or Income Tax on dividends or interest generated. By paying less tax, the funds are able to grow more tax efficiently.

You can begin drawing from your pension from age 55 (rising to 57 in 2028), with 25% typically tax-free.

And last but no means least, pension contributions reduce your reliance on a successful business sale to secure your retirement.

It is important to say that there are limitations to how much you can contribute to a pension, and the rules can be complex, especially if you’re a high earner or already drawing from pensions. Exceeding these limits can lead to unwanted tax liabilities, somewhat defeating the object of making pension contributions in the first place. There may also be inheritance tax implications.

That’s why it’s essential to seek independent financial advice from a qualified professional before taking action.

This isn’t an either/or decision. You can still plan to sell your business. But by combining that strategy with consistent pension contributions, you spread risk and make sure you don’t have all of your eggs in one basket. This improves your chances of a financially secure retirement.

Even modest, regular contributions, especially when started early, can build a significant pot.

If you’re a company director or small business owner and your retirement plan relies solely on the sale of your business, it may be time to reconsider. A two-pronged approach, combining pension funding with a future sale, can give you greater certainty, flexibility and peace of mind. If you’d like to discuss this in more detail, please feel free to get in touch.