Exit Planning: Detailed three-phase approach emphasizing preparation, liquidity event execution, and post-sale planning with a focus on making the business transferable.
Deferred Sales Trust: Strong advocacy for using an IRC 453 Deferred Sales Trust to defer capital gains, smooth income, and reduce sequence risk, with LOI-stage planning critical.
Alternative Investments: Post-sale portfolios should go beyond 60/40 into alternatives (long volatility, managed futures, precious metals) to diversify diversifiers and mitigate drawdowns.
Commercial Real Estate: Use of trust or self-directed LLC carve-outs to invest in real estate with long horizons; 1031 “rescue” option if identification/closing windows are missed.
Premium Financing: Life insurance funded via bank premium financing to create tax-advantaged cash value and estate-tax offsets, coordinated with trust distributions.
Captive Insurance: 831(b) captives proposed for hard-to-insure risks and tax-efficient reserve building, including health captives for employer cost control.
Buyer Landscape: Private equity versus strategic buyer trade-offs, ESOP pros/cons (debt burden, leadership continuity), and the need to align all advisors early.
Transcript
[Music] hello and welcome this is the mutiny investing podcast this podcast features long-form conversations on topics relating to investing markets risk volatility and complex systems so i wanted to do a bit of an experimental podcast this time so this should be interesting i've got uh sean mylan from tanhauser financial and he is a specialist in exit planning and so i know we have a lot of entrepreneurs that listen to our podcast we have a lot of entrepreneurs ex-clients so i want to kind of explore what exit planning is and so even though it seems pretty um self-definitional what it what does exit planning actually mean sean uh okay so it's the whole life cycle between basically treating your business as an asset uh that you know it's gonna have some dollar worth at the end a lot of people when they run a business especially when they do it for a while they tend to run their whole life through it and they use it for incoming lifestyle but they neglect the fact that it's actually worth something that they should sell or if uh anything pass on to you know their kids at some point um so it's doing the work to actually think all that through especially if they do decide to sell to somebody else um that it's an asset that's transferable uh so it's not dependent on the the owner um or all of the clients or friends of the owner or that nothing is documented those sorts of things um it's divided into generally three phases there's the prep work um once you've identified um kind of like a triggering event of hey i'm thinking about doing this in a few years or you know maybe they've had a health incident or something like that it's generally at least two or three years ahead of time that they're gonna clean up the books get their house in order document the procedures um often i'll bring a value advisor in to look over to get all those ducks in a row and really maximize what the multiple that this business could get and i can help a little bit there too with some of the financial structures make them more tax efficient or uh boost up their ebitda a bit um then there's going through the actual liquidity event so working with an m a firm uh to you know it's somewhat of an illiquid private market so we're looking for you know uh who's gonna be a good buyer whether it's gonna be private equity or a strategic buyer um and try to come in realistically for what that value is and then there's preparing which is this is often the most neglected part preparing for what happens post-sale often everybody gets so caught up on the idea of you know what's it gonna be worth and are we gonna get it like they're winning a lottery ticket and then once they have it they haven't thought about you know hey this has been my life and my identity for the past 20 or 30 years what am i gonna do afterwards how am i gonna you know invest this money that i'm not gonna you know blow it all or that you know oh it's gonna get invested in the market and then there's a market crash and then i'm back to score one so preparing owners through that whole life cycle is what exit planning is all about that's perfect i'm glad you actually talked about those three phases because i was actually going to start at the liquidity event and i'm glad we're not going to start there because it's our pre because i'm curious like the whole build to sell philosophy taylor and i believe in that even if you're never going to sell the business it's a good idea to think about what eventual buyer would want and to build the infrastructure in your business that looks great to an eventual buyer because that's just running a more efficient and effective business is that a fair assessment yeah exactly i mean uh yeah a lot of times you know it's something more to think about it's more stressed business owners are already running around uh stress out about their business but yeah if they think about it you know what's the worst that happens even if they don't sell it they have a more efficient more profitable business you know it's win-win and then so part of that what do you think are some of the biggest mistakes like you said it was like having relatives or friends kind of like as the number one sales client or things like that like what are the things that people don't that you usually need to tweak to get it ready for sale uh so yeah i have to look up um right long list yeah the the shorthand is the four types of capital where you're addressing um you know the people who are working there that the procedures are documented uh the customer relationships actually don't have it handy see if i can remember what the other one was uh while you're pulling it up one of the things i always think about is like how um pivotal or integral or the cornerstone is the founder of that business and is sometimes their their face of that business so you have to think about maybe structuring it so they don't need the continuity of us of a single person like you have that key man risk right okay and then part of it like you said you can help increase their ebitda with that but sometimes it's maybe not even increasing the ebitda is like you might be able to get a better multiple if it's much more effectively or officially like hands off or on business is that fair way to think about it right yeah that's the other part yep yeah so um yeah a uh you know a mediocre firm is gonna get maybe like a 2x but a really polished self-running dynamo might get you know 5x depending on the industry too but yeah it's a rough estimate so how often though like sometimes that's going to take you maybe two years to do the prep work before the liquidity event i mean are people usually coming to you at that point or they're coming to you like i want to sell right now and you're like well this is going to take us two years to clean this up uh it's a little of column a in the little of column b um the ones that want to do it sooner i mean you know sometimes there's a real pressing need for that and there are things that can be done to accelerate that process you know triage it and address the most urgent issues um and then through the liquidity event there are things that my firm does uh to help close that um value gap or income gap so even if they're not getting the top dollar that they possibly could okay well if we structure the deal so that they're not going to pay capital gains tax on the sale maybe that gets them closer to where they need to be right and i can't wait to get that the post sale side because that's i think the piece that is rarely talked about so when they're coming into this they're cleaning up the books they're getting they beat uh ibiata up they're you know working on different aspects of the business but they're coming into the liquidity event and they're looking for an actual purchaser like you said you a lot of times you can use that strategic buyer and it seems like everybody these days like this street buyer in their industry because they think they can get a higher multiple but is it always best to go with strategic buyer uh it really i mean it it so depends on the circumstances uh realistically right now there's just way more money out there with private equity uh they're clawing at the gates to deploy all this money that they have um and sometimes there's a bit of a cultural element that uh you know maybe the strategic buyer is a bitter rival and they still kind of carry a grudge um so it really depends on the circumstances of that company and you know whichever one makes sense uh the other option as well is to work with investment bank and set up an esop and maybe the management team themselves want to take over ownership of it and and that's the process that um you know the owner or the founder is able to step away from it so it depends on um you know it does depend on the business well let's define uh esop for people oh uh so employee stock ownership program um so basically an investment bank sponsors the value of what it would be purchased for and then um the employees are able to finance it over time with their own stock ownership and there's some tax advantages with that it's also complicated and a little fee heavy um it's also great when there is no natural buyer uh again you brought up that point of what happens when there's somebody who you know they need to exit within a year you know they they had a heart attack and they're afraid of the second one coming or something and there is no apparent buyer to buy them out the esop is kind of that buyer of last resort that hey you already have a great team working for you why not comp them uh through ownership of the company and transfer it that way and personally i always loved esop programs because i love the continuity to actually go to employees and for them to get an ownership interest but then when i started tracking esops you know 5 10 20 years post the conversion to esop a lot of times to be able to pay out the original owner they're putting on a huge amount of debt service that can be an enormous burden to the esop is that the catch 22 to kind of go in with the esop uh that's certainly one of them um you know again kind of going back to the corporate culture part um you know a camel is a horse designed by committee that uh without that kind of leadership or that initial entrepreneur the company tends to flounder or lacks direction as well oh you know i'm not saying don't do an esop it can't be a right fit for a lot of people but um you know that that leadership matters a lot and making sure that that's going to be in place is important are you telling me that centralized leadership matters and you can't really run a decentralized organization with no with no person driving the agenda i'm not going to get into politics now i just want to just highlight that piece uh so they're coming into this liquidity event so let's just say i'm selling let's just use round numbers whether it's 10 million or 100 million let's just choose 10 million i'm selling my business for 10 million dollars and there's a lot of literature out there like you said like how do you clean up your business like build to sell how do you get ebitda a lot of people can help with that and there's a lot of literature out there there's a lot of literature about like you know people telling their stories of their liquidity event when they sold their business but the hardest part like i was saying is like it's so hard to find information what do you do with that money post the quality event so let's say you find that strategic buyer or it's esop or it's a pe firm but i think then the hard part is without a very even more specific example um we can't say like who that buyer would be because then you could start structuring the terms based on that buyer right like what is like your price my terms kind of thing so let's let's try try to talk about it as generically as we can but then go into as much detail as possible is if i'm selling my business for 10 million kind of what are my options because i'm used to a certain amount of income from that business what am i going to do post sale right yeah so um um within the industries a topic i've been trying to address and you've been helping me with this as well is a lot of advisors come into exit planning more from the retail space so their notions of investment is almost identical to you know an ira retirement plan and how do i make this money last 20 years before it's depleted but when you're talking about you know tens of millions of dollars they're now an accredited investor that opens up a lot more options as far as what they're able to invest in they need to have those conversations about that level of sophisticated investing um and it helps them so that would then be the other part is to close that income gap where especially protecting against volatility tax or sequence of returns risk because they are taking an income from it um to protect again against that downside is especially important and forgive me my my headphones cut out for a second there i had some technical difficulties but if you address this i would i would assume that's just the hardest piece of the handholding you do is people are used to the expectations of the income they've had before the business versus post sale of what kind of income they expect from their investments uh usually the way that and the client won't even come out and say this openly but this is really how what's happening in their head as far as i can tell is now that they have this big pile of money you know part of being an entrepreneur is kind of not trusting other people you know why should i invest it in the market when and get six percent when i can do the work myself and make 20 um so that transition and that loss of control and then with that that fear of um and similar to a retirement plan as well okay what happens i exit i've got this money and then you know six months later the market crashes and now i'm in a hole uh how do i protect against that or how do i make sure that you know now i've got my big payday that i don't lose it usually at that level they're much more concerned with not losing the principal than they are and getting monster income from it but they but they also expect to live you know within the lifestyle they've become accustomed to i think you just touched on a really interesting piece that i always come across is like this idea of like zone a genius in a way for lack of a better term is like when somebody has a real a lot of success as an entrepreneur they tend to start thinking they're a cross-disciplinary genius and like you just said they don't trust anybody and now they're going to come out and they're going to become the next george soros they're going to become the next world's greatest investor and they don't realize that they probably need a decade or two to even get up to speed and they're just kind of delusional about their abilities i mean i'm good on them you made your unbelievable job to be able to sell a business for a liquidity event but the idea that then you're going to come compete with the best hedge fund managers in the world is a bit of a delusion but a lot of people kind of fall under that uh yeah absolutely um now if you have a team and if you're coaching them along the way and you're you know leading them into the right direction to to realize that uh you know that's certainly preventable um but again going back to that a lot of other advices coming into this space are coming from more of like a retail kitchen counter kind of planning is because that market is so competitive and so rife with a lot of advisors uh there's also a systemic cultural issue in this industry of um advisors who let their clients lead essentially that you know or that you know they're implementing their bad advice and then when it goes wrong they're the ones that take the fall for it uh there is a bit of a cultural component of to have confidence in your own abilities and that you know this is your domain expertise just like you know whatever business a client had that was their domain expertise and to have the confidence to say you know okay you know to to confront them on hey this is maybe something you actually don't know much about here's how involved it is um you know i'm gonna simplify the risk as best i can but you know it's much more like uh you know if you went to see um you know an oncologist uh for your lung cancer you wouldn't be arguing with them about you know the the style of treatment you know there's a level of okay this person's devoted their whole life to this crap this one particular specialty you know not that you blindly trust them but you know maybe you should defer to their you know experience and expertise uh you know which is the whole reason why you're going to them and the whole reason why you're paying them too right if you could do it all yourself you wouldn't need to pay all these other people the fact that you can't do it all all yourself is you know why you're bringing in this team to handle this unwieldy project yeah my favorite was the the great spanish chef and andrea of el boulii used to say like if uh eating wasn't so quotidian like three times a day then we could really elevate the art status of great chefs to like painters and sculptors but because we all eat every day and we all cook food we're not that impressed by what he can do on elbow you and i think almost the same thing sometimes as a financial advisor or whatever hedge fund managers like everybody can buy and sell stocks by just hitting a button on their computer so they think that every you know they're just they can compete with these hedge funds you know the sources of the world so to speak the other one that i think this really hard mental shift that uh we talked with our clients about often that had a liquidity event is like you have to uh take an enormous amount of concentrated risk to to gain wealth as an entrepreneur or business owner but then to keep it you have to add it's a total 180 degree shift is now you need proper diversification and do you think that's one of the hardest things for them to wrap their heads around it's almost like you have to you have to shift your mentality in 180 degrees uh yeah that that is very true um yeah i mean it's just a completely different mindset and at the same time one of the benefits of working with entrepreneurs over um you know maybe somebody who's like an evp that uh you know walked away from a company with a 401k with tens of millions of dollars is their mentality is different they're more they're generally more open-minded they're willing to work through problems themselves as opposed to someone's coming from more of a management position they're usually very well conditioned of well this is the one right way to do it uh this is how everybody tells me it should be done and then if you present anything different they just don't believe it and kind of rebuff you on it and that's that's almost impossible to deal with i'd frankly rather pass a client like that on to somebody else the great thing about working with entrepreneurs is that most of them uh are willing to think it through with you and if you can explain um you know much like you have the five-minute cockroach piece you know that's enough where they're like okay that makes sense i see where you're going with this i hadn't thought of it you know let let's see where you know what the details are from here yeah we have the same experience like if we could talk to that first generation decision maker and you you lay out a very rational plan it tends to make sense and then you can have a further conversation from that so let's get into like the ways to mitigate taxes on this liquidity event like i mean maybe starting with one that's kind of obvious but may not be the best is maybe like earn outs and maybe you could explain like what an earn out is and maybe the pros and cons of why you'd want to do it or not uh i mean so usually earn out is also that a buyer is wary that there's going to be skeletons in the closet that you know that they might be buying a lemon and it's a way to keep their expertise on make sure that it's a successful handoff um so it keeps them on now usually the sellers you know they want to be done with it you know once they've gone through all this they especially when they're not in charge anymore uh they feel like a fifth wheel um but that does help a little bit uh again when it's if it's not complicated with an earn out or financing the most straightforward way to do that again is that deferred sales trust where okay we're going to structure this trust as an intermediary we're going to perpetually defer the capital gains all of that is going to get invested in this post-liquidity event model and then they're like a 401k or a pension or um you know or an annuity they're only going to be paying taxes on the money that comes out as they need it and if they especially if you know for their lifestyle they only need you know one two or three percent they're very well ahead of the game between you know the growth inside the trust versus the money that they're pulling out uh to live their lifestyle so let's talk about more like setting up the sales trust like obviously they have to come to somebody like you to set up the sales trust are you working with a team of uh attorneys and like what are the kind of pros and cons like a lot of times when you hear about these kind of strategies you're like oh it sounds too could be true and usually you're kicking can down the road before the government comes back for you for taxes but like with the sales trust it's very different than some of the other kind of out-of-the-box you know things people come up with on the internet uh so that yeah first and foremost the great thing about this is it's not a hodgepodge of different strategies uh it's one piece of tax code you know so most people are familiar with the 401k or 403b for tax referral so this is 453 for installment sale um it's yeah this was uh i guess first invented i should say uh i want to say about 30 years ago they've been through audits there's always been no finding they have a private letter ruling um the law firm that handles this and and so yeah all these different people have um specialties that i work with and this is all they do yes there's going to be you know legal fee for setting it up it's contingent on it ever actually being funded so a lot of this is kind of no harm no foul to hey let's put this in and if you decide not to go through with it that's fine but you need to make sure that language is in there and that kind of comes back to a point you were saying before if they've already done the sale there's no way to go back and fix it so these are conversations that have to be had at the uh m a firm sales agreement level uh before it's completed so you know again it's that handoff process so from one phase the next um but otherwise it's pretty straightforward there's a trustee uh you know they're getting paid out of it um but the and there's illustrations to model this but obviously the savings from taxes early up front far out outperforms uh you know the fees are incurred to maintain the structure so ideally even on like when you're at the letter of intent level you want that to be uh on the documentation it's going to your trust not to like you individually like that's how pre-planning you need to be about it yeah that's generally the time to bring it up is that the loi um you know part of what the irs wants to see is that you were going to do it because it's structured this way they don't like seeing that you did all this work and then at the last minute said oh you know we were going to sell it straight up but then we saw this and decided to go some other way they kind of want to see that this was the plan all along so again having that conversation early um and because they're so moving so many moving parts in this whole process um you know the clients need to have their hand held throughout this whole thing i mean there might be a point where you're telling the client this like three times before it really sinks in that they wrap their head around the process well it might be helpful to just compare like uh just a rudimentary situation if i'm selling a 10 million dollar business i don't do anything to mitigate my taxes what kind of hit am i going to take versus converting this to the sales trust you know like what how how different is that delta between the two yeah if you're maxing out you know the taxes yeah that could be like 30 or 40 whack of what your you know that you'd be getting net um so yeah so if the you know 10 million dollar uh business you know you were looking at maybe a net of six million after that as opposed if you can keep the full ten and reap the investments from that um yeah it's significant and again that we have software that'll illustrate that uh specifically for any particular case you know taking into account um uh i think enough um like uh cost basis but with a business often a cost basis is pretty minimal got it and then i forgive me i can't think of the actual name of it because i've seen in the past where people have shown like if you were selling your business you could roll it into basically like a 60 40 index portfolio but that has a different name attached to it it's not technically a trust right that's just a different way to mitigate taxes uh you know that i'm not sure of i'd have to look at what you're what you're thinking of for that yeah and then so well because that's what i was always concerned with is like if you went from the sale and then you want to diversify and you want to mitigate your taxes but it would sound like when i was talking to other people about it the only options i had were investing in like 60 40 index or 100 s p and i was just like that obviously was untenable to me right right um yeah i mean yeah i'm not sure i mean other unless they're doing like muni bonds or something i don't know how that by itself would necessarily uh be tax advantageous but yeah again the fact that most people are coming from a retail investment space uh they know what they've been trained on and that's as far as it goes um and unfortunately for a lot of these other advisors that's kind of the attitude that they bring to the table as well is oh that's nice i'm glad you're working on it when it finally sells and you have that money let me know and i'll tell you what to do um but again by then you know a lot of the opportunities have been lost uh and yeah that um you know with a 60 40 uh all assets correlate in down markets right so that's really the biggest threat and especially when you have that sequence of returns risk or volatility tax because you're drawing an income from it uh you really need to be diversified beyond uh what most advisers you know especially if they're attached to a broker dealer are even able to offer and and that's part of the problem too is um that principal agent problem of you know either they don't know it uh the advisors don't know it uh or if they do know it but can't offer it they're not gonna suggest it because then all you're doing is teasing the client they're like why'd you tell me about it if you can't do it uh so to really do the foundational work of being able to offer these solutions to clients um yeah really counts and then so okay so i'm selling my business for 10 million dollars i'm essentially rolling you know close to that 10 million dollars right into the the 453 trust what are the kind of covenants and restrictions for like what i can invest in what i can invest in do i have to take distributions like what are kind of all the restrictions of of using this kind of vehicle gotcha um so so the way that's exchanged is then the client is going to have a promissory note uh by default it's 10 years because the law says it has to be some number you can't just say perpetual now the strategy there is when you're in year nine you can then work with the trustee to renegotiate and say you know what i'm willing to update these terms and extend it out another 10 years part of there's also that that withdrawal rate or that um you know the the percentage that you are taking out uh that can also be negotiated uh the irs does not like to see that you're treating it like an atm machine or a piggy bank it can't be willy-nilly it has to be some kind of structured payment um but it's also reasonably accommodating and flexible that if you think hey i'm only going to need two percent and then six months into the year you're like oh this is actually kind of tight you can revise it up to three uh if you realize that you don't need that money up front there's ways that okay maybe for the first couple years you're deferring completely and then you know maybe you're taking more down the road so it's it's very flexible and accommodating is there some sort of like minimum distribution by law that you had to take earned that's a good question for the lawyers there might be you know some of these things it's like what's the legal definition of a loan and below you know point zero zero one percent maybe that's not considered a loan anymore there may be some uh minimum in that sense i haven't encountered that because most people are usually interested in getting something uh often it's like one to three percent that they're pretty comfortable living off of now because i was making me think about i think when derek siver sold cd baby he put it in like a charitable trust for like music education where he got to draw on it until he died and then it went to the the musical education but i believe like when you set up terrible trust like the distributions have to be a minimum like four to five percent but i may be misunderstanding that yeah so yeah charitable trusts are much more structured uh that's also something i'm not as familiar with i would defer if somebody who really knows um you know foundations and uh you know non-profits and creating those kinds of structures i will say that the benefit of doing something deferred sales trust is that it buys you the time to do those other things i've seen far too often in you know speaking with other exit planning professionals where um because they're trying to capture that tax benefit uh they're going after maybe their fourth or fifth choice of preferred charity because they were the ones who could file the paperwork by the necessary deadline to get it done whereas if you defer first then you can figure out what you want to do from there and it takes that pressure off that you get to take the time that you need to do it right as opposed to having to work within the framework of you know the irs and tax rules so it's technically possible to roll a deferred sales trust into like a charitable trust in the future yeah too much uh i mean at its most simplest that's just a distribution that then you're contributing to a charter major trust yeah so it's so it maximizes the flexibility of options that you have available to then do it down the road whereas doing something like those charity trusts once you've done that that that's locked in you know so you really hope okay i did this the right way and if it's a year into it and you have you know uh buyer's remorse you're stuck with it but it's not a taxable event to move from the deferred sales trust to the charitable trust uh i will honestly have to check with with a tax advisor i offhand i suspect it would be that you would have a distribution and then a contribution so that they would balance each other out um but if it would have to be a direct rollover i'd have to check there may be some way to do that all right and then i wasn't tracking the promissory note and then and the 10-year duration is that like an accounting convention where you're basically you're forced to take a loan against the charitable trust just the way that's set up or like how does why is the promissory note necessary so because the 453 is structured as an installment sale uh the promissory note is the financing of how the installment is being paid with the idea of generically you're gonna get one percent a year for ten years and then a balloon payment on the back end the idea is we're trying to kick that balloon payment down the road for the rest of their natural life then you know when they when they pass away it is still outside of their estate there's some um taxable events that occur at death but it does also create multi-generational wealth outside of their estate um from that as well and usually there's like a life insurance component as well to knock out those taxes that you're getting you're taking advantage of that i want to get to the life insurance in a second but essentially yeah you're saying like within nuance you could keep moving that balloon payment that pro or that promissory no no rolling 10-year periods or something like that right and that's kind of the nature of all uh estate planning is there are these structures that are arms length enough that you don't have enough control that you're considered taxable um but you have enough influence on how it's going to benefit you that you can you know steer it in the general direction of what's appropriate for you so this is interesting piece because that arm's length control so that that brings me to the next question is like what can you actually invest in with this 453 and then how do you create that arm's length even though you want to choose what your investments are going to be yep uh so the investments is you know the obviously the um you know the beneficiaries of the trust are going to be included in that conversation really it's the trustee who's kind of making that ultimate decision as far as how it's invested um but you know trustees are amenable professionals who understand how this works and this is what they do full-time so they're on the same page um and so as far as what to invest in um part of it has to be professionally managed in order to fulfill the ability to pay out that promissory note so there has to be some level of professional management that we know you know that you're not investing in something that could all go bust and then that's going to wreck this whole um tax referral scheme as well um but it is possible to take a portion you know let's say even up to half where then it creates an llc uh where the let's see if i remember this correctly it's like an 80 20 split between the trust and then whoever the other company is and then that becomes self-directed and if they then want to invest in real estate or their next business or whatever that is that llc is now an asset within this tax deferred trust to carry on and grow just like any of the other investments and then is there anything like i remember when i was looking at pplis like private placement life insurance is like sometimes there's restrictions that like you can only have a minimum in certain investments do you have proper diversification is there any sort of like restrictions around that uh but so again it's a restriction on making sure that enough percentage is professionally managed such as by myself uh to satisfy the withdrawal rate or the interest rate of that promissory note so as long as we feel confident that we can meet that number the remaining balance is open and again it's not uncommon for have to be professional and have to be uh self-directed got it and then even if it's all professional and you're managing it is there any restrictions where you can go public private go anywhere vc illiquid real estate is there any any sort of restrictions that you're able to invest in um so right any so because they are at that point an accredited investor because they have at least the million to qualify um you know or the two or three hundred thousand um of income then yeah then then it's open-ended right they're considered a sophisticated investor and that's part of having that conversation is um you know this might be that threshold moment where they are now entering into that world where uh you know more than just the retail spaces available got it and then like you're saying if you're moving the trust down the line you're obviously going to want to put your kids as a beneficiary of the trust and is that eventually how you're going to avoid estate taxes or how does that get mitigated upon death uh so part of that is that the um uh that's what i'm looking for the you know the living trust of the family uh is generally then made to be the primary beneficiary of the the trust income generation from that promissory note and then yes there's usually also a life insurance component life insurance pays out tax-free you're paying for that life insurance from the income that's being generated from inside this trust so you're already very tax advantaged with that and then when that moment occurs you're at least getting if not exceeding through that tax-free death benefit to offset whatever taxes would be incurred so just if i think about it philosophically you have the trust and then you can wrap it in the life insurance and are you wrapping it in like a ppli or what's the typical life insurance that you're using to wrap the trust in uh so the trust so it's not that the trust is wrapped in it the trust is as an um the trust is going to pay for life insurance that then benefits who you know who's paying the taxes essentially and those sort of ppli options are available um you know sometimes that makes sense usually by default what we're going with is um premium financing of life insurance where then we're getting a bank to foot about two-thirds of the premium commitment and it's an accelerated contribution schedule so um you know the client or the trust in this case is really only paying half of the first five years premium uh the bank is paying the other half for those first five years the next five years the bank is paying all of it it cooks for another five years then the bank is getting its loan back plus interest but because you're getting that arbitrage between what a life insurance would pay and what the bank interest rate is you're capturing all of that and it greatly accelerates um the cash value of that policy and the financing on the bank side is it pretty low because it's tied to a life insurance policy like the the rates are so that's the minimum that's the benefit too um you know for a long time trying to do premium financing was onerous a lot like getting a mortgage you had to get individually underwritten and the bank had to know how these things work um i work with a team where they've made all of that uh turnkey and the asset itself is what secures the loan so they don't even go through a credit check in order to get this um the the bank uh has an automated process where you know they're the first um you know the first uh collateralized of it that you know if you miss a payment or it doesn't work out you know the bank's going to get their money back first um but that's all that's required in order to secure the loan and so part of that so the uh sorry the trust is paying for the life insurance and you're using premium financing with the bank but is there any like restrictions like sometimes like let's say if i'm 50 years old i sold the business for 10 million and i want to get that 10 or 10 million plus in life insurance isn't there only a certain amount i can stuff into that life insurance policy via the premiums every year like there's restrictions to that is there not so okay so yeah if you're thinking of uh the seven pay test unless you're not a non-resident alien um yeah so so there's a limit to that that's what's calculated um you know you just have to maintain what they call a corridor that the death benefit is a certain amount above whatever the cash value is but you're structuring the policy to to meet that and doing you know jumbo policies is not uncommon in that case so so if we we're starting from a design standpoint of okay where do we need the cash value to be and then build the policy around that yeah i like this separation much better of having like your investable trust and then just buying life insurance outside it via the trust versus whenever i looked at whole life or ppli and forgive me for anybody that does this for a living i was always like very concerned with a lot of the excel sheets that they present and then and more importantly to make sure that the actual person designing the contract has dotted their eyes and cross their t's so to make sure like the insurance company can't screw you on the back end is like there's a lot of liabilities there that i i felt uncomfortable with where it seems like you're you're mitigating a lot of those by just buying the life insurance via the trust is that fair uh yeah i think that's fair um you know i certainly have nothing against ppli uh it's a fit for right people but yeah you're right that and kind of like with the trust itself you need to make sure that the investments are going to be able to support the structure uh the same way that it has to support that promissory note um and when you get into more exotic investments um you know the actuarial process for that is perhaps murkier than other assets that um i want to say more well understood but yeah i think we do come back to that problem too of uh you know expected return pest performance is no indicator of expected return um so yeah it as far as the flexibility of the pool of investments that you have in the structure and that you're not tied to a limited um investment selection is the important part there all right so i i sell my business i set up the 453 trust i'm buying life insurance from the trust um you're investing the proceeds from from the trust can you i'm assuming you can also combine liquid and illiquid like you and i've talked about this privately like if you have a well-diversified fund but then you're using the uh capital efficiency there to buy illiquid let's say real estate but the best part about real estate is if you can have a 10 to 50 year time horizon and you're just buying rehabbing refinancing and just keep rolling that forward is that that's doable within the 453 yeah uh yeah that's all absolutely doable um that so that structure even though you know the cornerstone or bread and butter of what we do is exit planning this applies just as well to commercial real estate uh that's very common in what's marketed as a 1031 rescue so if we work with the qi ahead of time and they're not able to identify you know within 45 days or whatever it is or can't close within 180 days or whatever that is um and you know okay it's going to roll over this trust and that you're going to get that tax deferral and you know sometimes in real estate they know that's like a bargaining tactic that we're going to take you up to the very end of the date and when you don't have that and you're confident that okay you know you can walk away from that situation and still feel whole uh that can help you with that as well and then what else am i missing on from the 453 i'm using it for my investments i'm using it to buy life insurance what are other like tangential benefits that i'm missing that you you have the ability to allocate via the 453 um so because it's opening that whole world of um you know accredited investing that we're talking about more than stocks and bonds right with you know the stuff that we deal with in terms of you know long volatility positions or commodity trend following or you know physical precious metals um you know they diversify your diversifiers right so the ability to actually have access to all of those diversified diversifiers um it works within the structure also because you know this isn't a um an erisa instrument right that uh there are restrictions on what you can invest in in a 401k or an ira um this because it's still technically non-qualified money uh does not have any of those restrictions it'd be the same as you know if you were just investing from um you know a taxable account got it and then i'm trying to think like if is there a minimum sales price for a business where this makes sense or it's like if if you get down to like one to two million to five million does it just cost too much to set this up and you don't get much benefits or like what do you recommend the minimum sales prices for you want to set up you know the deferred sales trust it's pretty efficient so yeah that's a great point that you know uh fees are somewhat fixed but benefit is variable right so there's going to be a point where it stops making sense but that points pretty reasonable that as long as there is at least uh 250 000 of capital gains it's probably gonna make sense very interesting so is there a way to you know obviously i'm gonna pretend like i'm not asking this from a personal basis but if i if i haven't sold my business or not plan to sold my business is it is it possible set up like a 453 trust like without obviously sales deferred so it's probably not but like what would be the equivalent as i'm building a business and i want to put stuff away into a trust that would be similar that i can invest in kind of go anywhere policies is there anything similar to like pre-sale that would be similar to like a deferred sales trust uh yeah so the two that come to top of mind uh one is an 831b captive insurance i know especially lately people worry that you know it's on the irs's thirty dozen realistically most of that is because of you know it it's because of how people who are structuring it to really push the boundaries of what they thought they could get away with that's why it's come under scrutiny uh but again the team that i'm working with or teams i work with on this they're much more conservative but and they have a long track record of doing this because they don't want to go through all that you know if if this all blows up because the irs it's not actually worth anything to anyone right so why why risk it um but that's a great way that one especially if you're in a business where you have risks that are difficult to ensure i mean just from the legitimacy of having this uh privately held insurance company uh going through a global pandemic where suddenly the supply chain stops existing or your customers evaporate overnight that's a risk where you could get and people my clients did they got this payout that provided the liquidity that got them through that uh period of uncertainty and they could figure out where to position to next um you know uh people who are youtube stars and they're worried about being the platform from youtube because there's not many viable competitors to that and you no one really knows how uh you know those terms and agreements are going to change over time so there are all these sorts of certainties that are not normally covered by like typical business liability that that then can cover and pay out and those are tax favorable payouts um but then assuming you do a good job in uh estimating the risk of the policy that you're covering that the excess premium is then building up in this company that you own so you're able to deduct the premium as a business expense but then it's going to grow into in this other um entity that you have and if should you decide to take uh dividends from it it's long-term capital gains so it also has a tax advantage as well that if you you know don't end up having a lot of emergencies and are able to build up that cash it's not being you know thrown away to some insurance company never to be seen again you're still retaining that and if you have a lot of luck and retain it for long enough um they're going to be able to withdraw from that as well on a tax faithful basis um the other one is kind of going back to life insurance a bit uh you know the gap between the benefits of s corp and a c corp have closed because of 2018 tax law and if you have that separation of entity again you're able to use that premium finance life insurance combined with a split dollar loan regime so as opposed to say a typical 401k which if you have a small closely held business maybe it's a law firm or a dental practice or medical spa or something like that one uh i think even michael kitz has did the analysis on this that the return on investment doesn't break even on a 401k a typical 401k until like 20 to 25 years down the line but people do it because they say oh that's what i'm supposed to get or when they sign up with a payroll company the payroll companies like why don't we just add that on to and that's as far as anybody's ever thinking of it but if you're working with you know a few employees who are highly compensated like key man um it makes much more sense to do this you're free of all those erisa restrictions which is a lot of overhead and the you know generally the risk adjusted return is much more favorable as well um and because it's split dollar loan regime you know loans are an income so the money is going to you as a loan and that loan gets paid back from death benefit which again is tax-free so that's always kind of the um i could say loophole but the way life insurance is often engineered is uh you're using that tax-free death benefit to pay taxes that you would otherwise owe but within that regime my problem always with like whole life and all this other was very restricted what you can invest in but with the split dollar loan you still have the opportunity to kind of go anywhere and invest in you know hedge funds assuming you're accredited and everything so with with premium financing yeah that it is using um indexing or which is basically ginned up fixed yeah because they they want that hedged bet right they want to know there's a zero bound that it's not going to have you know again that sequence of returns risk that you have a big loss in one year uh so of course they do cap it on the other end um you know everything comes down to a derivative strategy um that's generally what they're looking at and because you're getting the leverage the tax-free return that you're getting from that tends to justify it especially then if that's also your bond proxy or the part that is liquid conservative you know you can rely on um even just straight up for a business owner they say okay i'm gonna do this yeah rough estimates let's say maybe it's like two million is space that for someone maybe in their 40s again you know this is not advice but very very rough estimates um you know that could make sense where they know okay no matter what else happens i've made those five payments everything else has set it and forget it the business goes bust i lose everything else i'm still going to be pretty well off and comfortable in retirement so because they have that confidence that they're not worried about losing everything now they feel free to take more appropriate risks with everything else that they're doing and then you you touched on the one i hid on earlier with captive insurance so that always makes me nervous of the people i've talked to and i'm sure you've dealt with them many many times and you said well there's a way to do it and be conservative but how do you like allay my fears about that like just by saying we're conservative like when you're working with people like what's the other way to talk about captive insurance um yeah that the legal structure is done right and i mean so also right this tax code exists right if the irs really thought it was tax evasion you wouldn't have that part in the tax code you know it's there because it's meant to do something um also i have to remember the statistic on this but basically every major company uh has a captive um i'm as a kid visiting walt disney world and maybe i'm just that kind of nerd but somehow got to talk about you know i wonder what the insurance is for liability with you know all the animatronics and things that could go wrong and disney employees are very well trained they won't just bs some answer they will go and find out the answer for you and they come back and basically yeah disney's had this uh captive since i think like the 1970s um in order to self-insure all of that so you know it is a strategy used by you know every major global company or most i don't want to say every but many of the global companies that you've heard of and so this is you know one of my random outside the box questions so forgive me if you don't have an answer for this one but i always wanted like i'm sure you feel the same way it always drives me nuts how much like health insurance is for entrepreneurs and i think about the way we've structured like mutiny funds and cockroach and we have all like hundreds of lps and most of which are entrepreneurs i've always wondered can you set up a captive insurance and then in bulk we can start negotiating on on health insurance for entrepreneurs and lowering that cost yeah so so that exists i have people who do exactly that as well um and a lot of companies are finding that that makes sense also because they can control costs uh they're not just paying out every claim that comes in they can then work with the employees or tailor it to to suit them best for what they actually need and when they're doing that are they uh pairing it like a high deductible with like an hsa plan and then they can invest that as well or uh it it depends yeah the details depend on the company and the implementation um yeah sometimes it's you know the hsa or hra is a piece of that um uh and then yeah the bulk or major events um yeah that is a little slightly outside of my wheelhouse i have the ex i know enough to kind of bring it up and talk about it but i definitely have people who know all of the intimate details of when it's most appropriate to use what combination as far as uh you know health and health captives are concerned yeah i have a uh a stupid dream of of building up the largest like hsa policy in the world like the way like teal and everything has ever done with other plans but nobody i don't think anybody's quite done with the hsa yet but it has that that triple tax benefit and if you could if you had a a high return high ball strategy that didn't blow up it would be an interesting way to build up a nest egg so the version of that that would be much more doable because the restrictions for straight up hsa are very onerous that the politics behind that have never really been able to iron out but a lot of people don't know there's also so everybody's familiar with the um 401k there's also an option for defined contribution for a 401 h and that is also where you get that triple benefit of you're deducting it pre-tax but then when you're retired and you're spending it because it's medical expenses you're getting the tax deduction so you're not paying taxes then either and so in cases where you know again part of building up the company early on we're doing a 401 h combined with a pension plan to really maximize tax deferral uh yeah that's a scenario where we could probably hit the numbers necessary to do a you know a sophisticated investment strategy like that we're going to talk about that offline as well so um we talked about working with the clients you know maybe two years out pre-liquidity event getting their um structure and books in line that way they can get the maximize the multiple they're gonna sell to yeah talk about the different strategic buyers versus pe firms when we're going into that liquidity event um setting that up the 453 deferred sales trust you know prior to doing all that so that way you can defer that sales into the trust and you get the bulk of that money on the liquidity event then you have your trust set up somebody like you is managing that trust and and really diversifying and and trying to figure out a proper income stream that that the person is looking for uh you also using like you're saying premium financing to to build in the life insurance as part of that as well what after that is ongoing is it like quarterly annual basis where you're reviewing with the client or or with hands off can you even talk to them about what you're investing well so uh i'm working with the trustee the trustee's going to be on that call and then the beneficiaries of the trust are generally cc'd on everything so they're going to get copies of the statements and they're going to be in the loop and yeah we want to make sure they're on the same page as well because the trustee also has to know how to act in the way that is best beneficial for the beneficiaries of the trust right um as far as how frequently those reviews are held again a lot of that depends on the client there are some that say you know what give me an update once a year or unless something happens you know if there's a big market crash give me a call let me know everything's okay um others want that quarterly review you know maybe they have more complicated things going on there's other estate planning issues of they've remarried and have a blended family or you know they're bringing their kids into it or you know they're so yeah it very much is tailored to the client as far as as much or as little hands-on as they need but generally a benefit too of using something like uh where you have more of those diversified diversifiers that you're really protecting against those um drawdowns is you don't have those panic conversations of yeah i know the s p 500 is down 20 right now don't panic stay the course uh you know but you know you're you're talking them down off the ledge i'd rather they're not getting on the ledge to begin with and when you actually have a portfolio that's diversified i mean i just had a conversation with another advisor earlier today and he gave me that standard line of oh well we were diversified in a typical uh 60 40 kind of way so we're only down 12 percent instead of 20. we are still down 12 uh you know that's not that's not a win um it yes it could be worse but it always could be worse right um so yeah having having that worked out ahead of time is part of that process of you know that you're looking out for the client both materially as well as psychologically and then is there anything from a regulatory perspective on the trust for distributions whether annually quarterly or monthly or is that up to the client uh you know it's up the client coordinating with the trustee but yeah whatever is going to benefit uh be beneficial to the client uh those are all the standard options the the biggest concern is it can't look like a piggy bank right so it can't be uh they start taking a monthly income and then they want to buy a boat or they have an opportunity to buy a vacation home and they say i need you know a sudden distribution that that'll that'll make it uh you know that could mess it up so there has to be some kind of reasonable adjustment of okay well apparently what you're really saying is that you needed more income on a recurring basis we're going to go back and rewrite the note there's a little bit of a fee to go back and do that kind of like adjusting a mortgage um but then you're gonna be have access to you know more of the money from the trust uh you know that that that you need um so that is one way of doing it the other is sometimes those kinds of events like if it is you know investing in real estate that you're not going to live in yourself again that's something okay well maybe that's something that could be done inside the trust as opposed to money that actually has to come out for you to use but part of that though due to the arms length rule with the trustee can the client tell the trustee that they're interested in this piece of real estate or they're just interested in investing in real estate uh so an llc is going to be created where they are i believe they're the 80 owner and the trust is then the 20 owner but so because they're the majority stakeholder they're able to direct where that goes but the trust has in the trustee has decided to invest in that llc as part of their overall portfolio so outside of carving out that llc when you're setting it up with the trustee you're going to have to want to have a lot of long conversations as the client about a broadly diversified portfolio and what the trustee is going to implement because after they put it into practice you can't really have too much input it's from a regulatory perspective right um yeah there has to be there should be an understanding of you know what the investment goals and strategy is going to be um yeah which which again so in practice psychologically that the secrets of events tends to be you know we're interested in all this minutia of investing it's not interesting to most people their eyes glaze over it goes over their head they don't really understand it nor they necessarily want to understand it oh then they want to know is my money safe am i going to be able to live off of this am i protected if there's a market crash uh but the hook to get them there to a place where they are going to give you some undivided attention and talk for 50 minutes about the parts of that that they do need to know that here's mechanically how it works this is how we're managing risk this is how we're going to protect you it's once they know they're saving that you know 30 40 off their taxes that okay you know i'm listening and then you can have that conversation of by the way how this is invested to not you know to also in the back of the mind they're worried about what if i lose half of it because of market crash we've addressed that um you know if we're doing our jobs correctly we have the diversified diversifiers that you're not going to have those big drawdowns which compound over the long term is much more effective than trying to uh hit home runs and then i'm obviously setting you up with this one because you brought it up with like other financial advisors or usually just doing the 60 40 and it's do you think it's just cya just cover your ass and it's just mimesis and everybody's afraid of looking different is why they don't provide that their clients well the majority are still just recommending 60 40 portfolios after they have a business sale that's that's certainly part of it i mean so all of that whole confluence of all of that plays a role right that you know they're working with a broker dealer and that broker dealer is very rigid as far as what they're allowed to do and what i'm not allowed to do you know maybe you're not allowed to use outside software except for the one designated portfolio construction software that that firm has implemented so you're not able to talk about anything that's not offered on that menu uh there is a bit of professional risk that you know again it's better with entrepreneurs than people who might have you know executive vice president of a company and maybe they have a big concentrated stock position but you know they've been in management their whole life and so they'll come into it and oh well you know i read kiplinger money magazine and i know it's supposed to be you know low fee index funds in a 60 40 because you can't beat the market and you try to talk about in anything different and you know you're fighting an uphill battle and it's just not worth it uh so they do have to be somewhat amenable to thinking through it themselves if they have someone who can explain it in a non-overly technical non-jargony kind of way on why that's the better alternative but to get the sword to sort psychologically the right kind of client and to hold their attention long enough to have that conversation that all has to be teed up as well right like it's a it's a long-term relationship like you're saying if you especially if you want to do pre two years pre-sale like obviously this is a very long term and it's is that that hand holding and finding the right clients is always the key for you it's a process yeah it's a process of earning their trust through that process as well so so often i mean again the ones who are ready to sell i can have that conversation and if they're that urgent you know then they are kind of willing to make that decision on their own but the ones where we're just talking about hey this is a you know probably the biggest asset that you own and it's worth something and you're gonna need to sell it off to somebody someday you're gonna earn their trust because you brought it to them right it's like inception you brought up the idea so you're going to earn their trust doing the smaller pieces with their business like the captive insurance or the 401 h plan and once they see that in practice then they're going to trust it more for when you get to the big liquidity event yeah i mean i would think like how many business owners when you talk to them i've even heard of like a 453 deferred sales trust i mean you're earning their trust right away because i'm using trust twice there but like you're earning that right away because you're you're introducing them to new ideas that they're going to love for mitigating their tax consequences of selling their baby yeah so a key part of that too it's a it's a big tent doing an exit plan uh i always want to emphasize that if they already have their favorite cpa maybe it's a cpa that their dad introduced them to 30 40 years ago and trust them implicitly but they also haven't done ce or kept you know this this is too exotic or outside their wheelhouse to you know for something they would know about um or you know other advisors you know maybe they already have a financial advisor for like their ira's retirement plan or something like that nobody's getting pushed out of the nest you know everybody can be included in this conversation we're not trying to exclude anyone uh but this is a you know a unique uh specific complicated process and there are things in it that you wouldn't hear about otherwise and that is also the biggest concern a lot of clients have is they know it's kind of their one shot and because they've been successful they're very cautious about not screwing up and because they can't really be in control you know they're relying on other people to do a good job there's a lot of tension there that they really want to trust but verify and figure out that's the case um having the cpa on board um for you know the accountant or the tax advisor and especially having the m a team who is brokering the sale to have them on board is very important this as well in my experience if they're already working with some firm and you know i meet them at some event or they're talking about it and i mentioned well you know did they bring this up and you say yeah you could have deferred all these taxes if their team that they've already selected and trust hasn't brought it up psychologically in their head even though they could go google it and find out that this is correct and save you know millions possibly tens of millions of dollars they're gonna think well i picked the right team they didn't mention this so if this other person mentioned it and they didn't it must not be worth doing worth looking into and people can really shoot themselves in the foot because of that so getting uh you know everyone on the same page in that team of what's available what they can do and that their the client isn't getting mixed messages is very important as well now that's extremely important point you hit on that the team aspect of it because yeah nobody wants to fire their family cpa to worked with some guy they just met so that's that's a perfect way of looking at it that's that's great why did you name your firm tanhauser uh and i pronounce that correctly yes uh so yeah it's like the um you know like the opera or like the uh fairy tale um i i do wish i had more of a story to this part of it was i i was and when you have to go and do branding especially because now everybody's a brand finding the domain that isn't taken finding the firm that isn't already using that name uh is in and of itself a challenge and really it was a matter of just kind of ideas that popped into my head and oh let me see if this is taken and when it wasn't and i could kind of grab everything across the board um okay i'll go with that just describe the bane of my existence coming up with great company names and then googling it and knowing it's taking it like everything's always taken it's it's impossible but i did just did snag as a domain name exit dot finance i'm kind of proud that i locked that there you go yeah yeah use the the different endings on these domains these days so i want to thank you for coming on to to talk about 453 and deferred sales trust i think it's hopefully highly valuable for a lot of the entrepreneurs in our audience i'm probably have to get you back on again because what most people don't know that i've learned is you're you're quite the economic historian especially uh specializing in in austrian economics so we could do an entire podcast or series of podcasts just on that alone and like yeah like you you're always teasing me i think you should write several books you said should i write a book i think you should write several books yeah i i would like that to come back on uh if only because i think we can revise the way that you your definition of malinvestment or the way that you think about it your malinvestment is somebody else's opportunity right so it is um you know we thought it was fit for purpose a it doesn't work out it gets liquidated but somebody else then says okay i can do it for you know plan b and then it then it works out right yeah or my my thing is actually it's a time horizon thing over a short time resident might look at mal investment over 100 200 years it looks like beneficial invest or creative investment we just don't know that's my point is like how do you know when the time horizon you're looking at and that's that's the bane of every entrepreneur and you've touched on this point before as well yeah you know what happens if you run runway you know i mean an idea hey if i get this done in ten years is gonna you know be the you know the next elon musk with a rocket to mars but if there's a credit crunch and your funding dries up and you're in year six it's not sustainable anymore exactly uh thanks sean i appreciate you coming on and i look forward to our future conversations yup likewise thanks for having me thanks for listening if you enjoyed today's show we'd appreciate if you would share this show with friends and leave us a review on itunes as it helps more listeners find the show and join our amazing community to those of you who already shared or left to review thank you very sincerely it does mean a lot to us if you'd like more information about mutiny fund you can go to mutinyfun.com for any thoughts on how we can improve the show or questions about anything we've talked about here on the podcast today drop us a message via email i'm taylor at mutinyfun.com and jason is jason immunityfun.com or you can reach us on twitter i'm at taylor pearson m e and jason is at jason mutiny to hear about new episodes or get our monthly newsletter with reading recommendations sign up at mutinyfun.com newsletter this podcast is provided for informational purposes only and should not be relied upon as legal business investment or tax advice all opinions expressed by podcast participants are certainly their own opinions and do not necessarily reflect the opinions of mutually funds their affiliates or companies featured due to industry regulations participants of this podcast are instructed to not make specific trade recommendations nor reference past or potential profits listeners are reminded that managed features commodity trading forex trading and other alternative investments are complex and carry a risk of substantial losses as such they're not suitable for all investors and you should not rely on any of the information as a substitute for the exercise of your own skill and judgment in making a decision on the appropriateness of such investments visit mutinyfun.com disclaimer for more information [Music]
Tax Free Business Exit – Sean Wieland
Summary
Transcript
[Music] hello and welcome this is the mutiny investing podcast this podcast features long-form conversations on topics relating to investing markets risk volatility and complex systems so i wanted to do a bit of an experimental podcast this time so this should be interesting i've got uh sean mylan from tanhauser financial and he is a specialist in exit planning and so i know we have a lot of entrepreneurs that listen to our podcast we have a lot of entrepreneurs ex-clients so i want to kind of explore what exit planning is and so even though it seems pretty um self-definitional what it what does exit planning actually mean sean uh okay so it's the whole life cycle between basically treating your business as an asset uh that you know it's gonna have some dollar worth at the end a lot of people when they run a business especially when they do it for a while they tend to run their whole life through it and they use it for incoming lifestyle but they neglect the fact that it's actually worth something that they should sell or if uh anything pass on to you know their kids at some point um so it's doing the work to actually think all that through especially if they do decide to sell to somebody else um that it's an asset that's transferable uh so it's not dependent on the the owner um or all of the clients or friends of the owner or that nothing is documented those sorts of things um it's divided into generally three phases there's the prep work um once you've identified um kind of like a triggering event of hey i'm thinking about doing this in a few years or you know maybe they've had a health incident or something like that it's generally at least two or three years ahead of time that they're gonna clean up the books get their house in order document the procedures um often i'll bring a value advisor in to look over to get all those ducks in a row and really maximize what the multiple that this business could get and i can help a little bit there too with some of the financial structures make them more tax efficient or uh boost up their ebitda a bit um then there's going through the actual liquidity event so working with an m a firm uh to you know it's somewhat of an illiquid private market so we're looking for you know uh who's gonna be a good buyer whether it's gonna be private equity or a strategic buyer um and try to come in realistically for what that value is and then there's preparing which is this is often the most neglected part preparing for what happens post-sale often everybody gets so caught up on the idea of you know what's it gonna be worth and are we gonna get it like they're winning a lottery ticket and then once they have it they haven't thought about you know hey this has been my life and my identity for the past 20 or 30 years what am i gonna do afterwards how am i gonna you know invest this money that i'm not gonna you know blow it all or that you know oh it's gonna get invested in the market and then there's a market crash and then i'm back to score one so preparing owners through that whole life cycle is what exit planning is all about that's perfect i'm glad you actually talked about those three phases because i was actually going to start at the liquidity event and i'm glad we're not going to start there because it's our pre because i'm curious like the whole build to sell philosophy taylor and i believe in that even if you're never going to sell the business it's a good idea to think about what eventual buyer would want and to build the infrastructure in your business that looks great to an eventual buyer because that's just running a more efficient and effective business is that a fair assessment yeah exactly i mean uh yeah a lot of times you know it's something more to think about it's more stressed business owners are already running around uh stress out about their business but yeah if they think about it you know what's the worst that happens even if they don't sell it they have a more efficient more profitable business you know it's win-win and then so part of that what do you think are some of the biggest mistakes like you said it was like having relatives or friends kind of like as the number one sales client or things like that like what are the things that people don't that you usually need to tweak to get it ready for sale uh so yeah i have to look up um right long list yeah the the shorthand is the four types of capital where you're addressing um you know the people who are working there that the procedures are documented uh the customer relationships actually don't have it handy see if i can remember what the other one was uh while you're pulling it up one of the things i always think about is like how um pivotal or integral or the cornerstone is the founder of that business and is sometimes their their face of that business so you have to think about maybe structuring it so they don't need the continuity of us of a single person like you have that key man risk right okay and then part of it like you said you can help increase their ebitda with that but sometimes it's maybe not even increasing the ebitda is like you might be able to get a better multiple if it's much more effectively or officially like hands off or on business is that fair way to think about it right yeah that's the other part yep yeah so um yeah a uh you know a mediocre firm is gonna get maybe like a 2x but a really polished self-running dynamo might get you know 5x depending on the industry too but yeah it's a rough estimate so how often though like sometimes that's going to take you maybe two years to do the prep work before the liquidity event i mean are people usually coming to you at that point or they're coming to you like i want to sell right now and you're like well this is going to take us two years to clean this up uh it's a little of column a in the little of column b um the ones that want to do it sooner i mean you know sometimes there's a real pressing need for that and there are things that can be done to accelerate that process you know triage it and address the most urgent issues um and then through the liquidity event there are things that my firm does uh to help close that um value gap or income gap so even if they're not getting the top dollar that they possibly could okay well if we structure the deal so that they're not going to pay capital gains tax on the sale maybe that gets them closer to where they need to be right and i can't wait to get that the post sale side because that's i think the piece that is rarely talked about so when they're coming into this they're cleaning up the books they're getting they beat uh ibiata up they're you know working on different aspects of the business but they're coming into the liquidity event and they're looking for an actual purchaser like you said you a lot of times you can use that strategic buyer and it seems like everybody these days like this street buyer in their industry because they think they can get a higher multiple but is it always best to go with strategic buyer uh it really i mean it it so depends on the circumstances uh realistically right now there's just way more money out there with private equity uh they're clawing at the gates to deploy all this money that they have um and sometimes there's a bit of a cultural element that uh you know maybe the strategic buyer is a bitter rival and they still kind of carry a grudge um so it really depends on the circumstances of that company and you know whichever one makes sense uh the other option as well is to work with investment bank and set up an esop and maybe the management team themselves want to take over ownership of it and and that's the process that um you know the owner or the founder is able to step away from it so it depends on um you know it does depend on the business well let's define uh esop for people oh uh so employee stock ownership program um so basically an investment bank sponsors the value of what it would be purchased for and then um the employees are able to finance it over time with their own stock ownership and there's some tax advantages with that it's also complicated and a little fee heavy um it's also great when there is no natural buyer uh again you brought up that point of what happens when there's somebody who you know they need to exit within a year you know they they had a heart attack and they're afraid of the second one coming or something and there is no apparent buyer to buy them out the esop is kind of that buyer of last resort that hey you already have a great team working for you why not comp them uh through ownership of the company and transfer it that way and personally i always loved esop programs because i love the continuity to actually go to employees and for them to get an ownership interest but then when i started tracking esops you know 5 10 20 years post the conversion to esop a lot of times to be able to pay out the original owner they're putting on a huge amount of debt service that can be an enormous burden to the esop is that the catch 22 to kind of go in with the esop uh that's certainly one of them um you know again kind of going back to the corporate culture part um you know a camel is a horse designed by committee that uh without that kind of leadership or that initial entrepreneur the company tends to flounder or lacks direction as well oh you know i'm not saying don't do an esop it can't be a right fit for a lot of people but um you know that that leadership matters a lot and making sure that that's going to be in place is important are you telling me that centralized leadership matters and you can't really run a decentralized organization with no with no person driving the agenda i'm not going to get into politics now i just want to just highlight that piece uh so they're coming into this liquidity event so let's just say i'm selling let's just use round numbers whether it's 10 million or 100 million let's just choose 10 million i'm selling my business for 10 million dollars and there's a lot of literature out there like you said like how do you clean up your business like build to sell how do you get ebitda a lot of people can help with that and there's a lot of literature out there there's a lot of literature about like you know people telling their stories of their liquidity event when they sold their business but the hardest part like i was saying is like it's so hard to find information what do you do with that money post the quality event so let's say you find that strategic buyer or it's esop or it's a pe firm but i think then the hard part is without a very even more specific example um we can't say like who that buyer would be because then you could start structuring the terms based on that buyer right like what is like your price my terms kind of thing so let's let's try try to talk about it as generically as we can but then go into as much detail as possible is if i'm selling my business for 10 million kind of what are my options because i'm used to a certain amount of income from that business what am i going to do post sale right yeah so um um within the industries a topic i've been trying to address and you've been helping me with this as well is a lot of advisors come into exit planning more from the retail space so their notions of investment is almost identical to you know an ira retirement plan and how do i make this money last 20 years before it's depleted but when you're talking about you know tens of millions of dollars they're now an accredited investor that opens up a lot more options as far as what they're able to invest in they need to have those conversations about that level of sophisticated investing um and it helps them so that would then be the other part is to close that income gap where especially protecting against volatility tax or sequence of returns risk because they are taking an income from it um to protect again against that downside is especially important and forgive me my my headphones cut out for a second there i had some technical difficulties but if you address this i would i would assume that's just the hardest piece of the handholding you do is people are used to the expectations of the income they've had before the business versus post sale of what kind of income they expect from their investments uh usually the way that and the client won't even come out and say this openly but this is really how what's happening in their head as far as i can tell is now that they have this big pile of money you know part of being an entrepreneur is kind of not trusting other people you know why should i invest it in the market when and get six percent when i can do the work myself and make 20 um so that transition and that loss of control and then with that that fear of um and similar to a retirement plan as well okay what happens i exit i've got this money and then you know six months later the market crashes and now i'm in a hole uh how do i protect against that or how do i make sure that you know now i've got my big payday that i don't lose it usually at that level they're much more concerned with not losing the principal than they are and getting monster income from it but they but they also expect to live you know within the lifestyle they've become accustomed to i think you just touched on a really interesting piece that i always come across is like this idea of like zone a genius in a way for lack of a better term is like when somebody has a real a lot of success as an entrepreneur they tend to start thinking they're a cross-disciplinary genius and like you just said they don't trust anybody and now they're going to come out and they're going to become the next george soros they're going to become the next world's greatest investor and they don't realize that they probably need a decade or two to even get up to speed and they're just kind of delusional about their abilities i mean i'm good on them you made your unbelievable job to be able to sell a business for a liquidity event but the idea that then you're going to come compete with the best hedge fund managers in the world is a bit of a delusion but a lot of people kind of fall under that uh yeah absolutely um now if you have a team and if you're coaching them along the way and you're you know leading them into the right direction to to realize that uh you know that's certainly preventable um but again going back to that a lot of other advices coming into this space are coming from more of like a retail kitchen counter kind of planning is because that market is so competitive and so rife with a lot of advisors uh there's also a systemic cultural issue in this industry of um advisors who let their clients lead essentially that you know or that you know they're implementing their bad advice and then when it goes wrong they're the ones that take the fall for it uh there is a bit of a cultural component of to have confidence in your own abilities and that you know this is your domain expertise just like you know whatever business a client had that was their domain expertise and to have the confidence to say you know okay you know to to confront them on hey this is maybe something you actually don't know much about here's how involved it is um you know i'm gonna simplify the risk as best i can but you know it's much more like uh you know if you went to see um you know an oncologist uh for your lung cancer you wouldn't be arguing with them about you know the the style of treatment you know there's a level of okay this person's devoted their whole life to this crap this one particular specialty you know not that you blindly trust them but you know maybe you should defer to their you know experience and expertise uh you know which is the whole reason why you're going to them and the whole reason why you're paying them too right if you could do it all yourself you wouldn't need to pay all these other people the fact that you can't do it all all yourself is you know why you're bringing in this team to handle this unwieldy project yeah my favorite was the the great spanish chef and andrea of el boulii used to say like if uh eating wasn't so quotidian like three times a day then we could really elevate the art status of great chefs to like painters and sculptors but because we all eat every day and we all cook food we're not that impressed by what he can do on elbow you and i think almost the same thing sometimes as a financial advisor or whatever hedge fund managers like everybody can buy and sell stocks by just hitting a button on their computer so they think that every you know they're just they can compete with these hedge funds you know the sources of the world so to speak the other one that i think this really hard mental shift that uh we talked with our clients about often that had a liquidity event is like you have to uh take an enormous amount of concentrated risk to to gain wealth as an entrepreneur or business owner but then to keep it you have to add it's a total 180 degree shift is now you need proper diversification and do you think that's one of the hardest things for them to wrap their heads around it's almost like you have to you have to shift your mentality in 180 degrees uh yeah that that is very true um yeah i mean it's just a completely different mindset and at the same time one of the benefits of working with entrepreneurs over um you know maybe somebody who's like an evp that uh you know walked away from a company with a 401k with tens of millions of dollars is their mentality is different they're more they're generally more open-minded they're willing to work through problems themselves as opposed to someone's coming from more of a management position they're usually very well conditioned of well this is the one right way to do it uh this is how everybody tells me it should be done and then if you present anything different they just don't believe it and kind of rebuff you on it and that's that's almost impossible to deal with i'd frankly rather pass a client like that on to somebody else the great thing about working with entrepreneurs is that most of them uh are willing to think it through with you and if you can explain um you know much like you have the five-minute cockroach piece you know that's enough where they're like okay that makes sense i see where you're going with this i hadn't thought of it you know let let's see where you know what the details are from here yeah we have the same experience like if we could talk to that first generation decision maker and you you lay out a very rational plan it tends to make sense and then you can have a further conversation from that so let's get into like the ways to mitigate taxes on this liquidity event like i mean maybe starting with one that's kind of obvious but may not be the best is maybe like earn outs and maybe you could explain like what an earn out is and maybe the pros and cons of why you'd want to do it or not uh i mean so usually earn out is also that a buyer is wary that there's going to be skeletons in the closet that you know that they might be buying a lemon and it's a way to keep their expertise on make sure that it's a successful handoff um so it keeps them on now usually the sellers you know they want to be done with it you know once they've gone through all this they especially when they're not in charge anymore uh they feel like a fifth wheel um but that does help a little bit uh again when it's if it's not complicated with an earn out or financing the most straightforward way to do that again is that deferred sales trust where okay we're going to structure this trust as an intermediary we're going to perpetually defer the capital gains all of that is going to get invested in this post-liquidity event model and then they're like a 401k or a pension or um you know or an annuity they're only going to be paying taxes on the money that comes out as they need it and if they especially if you know for their lifestyle they only need you know one two or three percent they're very well ahead of the game between you know the growth inside the trust versus the money that they're pulling out uh to live their lifestyle so let's talk about more like setting up the sales trust like obviously they have to come to somebody like you to set up the sales trust are you working with a team of uh attorneys and like what are the kind of pros and cons like a lot of times when you hear about these kind of strategies you're like oh it sounds too could be true and usually you're kicking can down the road before the government comes back for you for taxes but like with the sales trust it's very different than some of the other kind of out-of-the-box you know things people come up with on the internet uh so that yeah first and foremost the great thing about this is it's not a hodgepodge of different strategies uh it's one piece of tax code you know so most people are familiar with the 401k or 403b for tax referral so this is 453 for installment sale um it's yeah this was uh i guess first invented i should say uh i want to say about 30 years ago they've been through audits there's always been no finding they have a private letter ruling um the law firm that handles this and and so yeah all these different people have um specialties that i work with and this is all they do yes there's going to be you know legal fee for setting it up it's contingent on it ever actually being funded so a lot of this is kind of no harm no foul to hey let's put this in and if you decide not to go through with it that's fine but you need to make sure that language is in there and that kind of comes back to a point you were saying before if they've already done the sale there's no way to go back and fix it so these are conversations that have to be had at the uh m a firm sales agreement level uh before it's completed so you know again it's that handoff process so from one phase the next um but otherwise it's pretty straightforward there's a trustee uh you know they're getting paid out of it um but the and there's illustrations to model this but obviously the savings from taxes early up front far out outperforms uh you know the fees are incurred to maintain the structure so ideally even on like when you're at the letter of intent level you want that to be uh on the documentation it's going to your trust not to like you individually like that's how pre-planning you need to be about it yeah that's generally the time to bring it up is that the loi um you know part of what the irs wants to see is that you were going to do it because it's structured this way they don't like seeing that you did all this work and then at the last minute said oh you know we were going to sell it straight up but then we saw this and decided to go some other way they kind of want to see that this was the plan all along so again having that conversation early um and because they're so moving so many moving parts in this whole process um you know the clients need to have their hand held throughout this whole thing i mean there might be a point where you're telling the client this like three times before it really sinks in that they wrap their head around the process well it might be helpful to just compare like uh just a rudimentary situation if i'm selling a 10 million dollar business i don't do anything to mitigate my taxes what kind of hit am i going to take versus converting this to the sales trust you know like what how how different is that delta between the two yeah if you're maxing out you know the taxes yeah that could be like 30 or 40 whack of what your you know that you'd be getting net um so yeah so if the you know 10 million dollar uh business you know you were looking at maybe a net of six million after that as opposed if you can keep the full ten and reap the investments from that um yeah it's significant and again that we have software that'll illustrate that uh specifically for any particular case you know taking into account um uh i think enough um like uh cost basis but with a business often a cost basis is pretty minimal got it and then i forgive me i can't think of the actual name of it because i've seen in the past where people have shown like if you were selling your business you could roll it into basically like a 60 40 index portfolio but that has a different name attached to it it's not technically a trust right that's just a different way to mitigate taxes uh you know that i'm not sure of i'd have to look at what you're what you're thinking of for that yeah and then so well because that's what i was always concerned with is like if you went from the sale and then you want to diversify and you want to mitigate your taxes but it would sound like when i was talking to other people about it the only options i had were investing in like 60 40 index or 100 s p and i was just like that obviously was untenable to me right right um yeah i mean yeah i'm not sure i mean other unless they're doing like muni bonds or something i don't know how that by itself would necessarily uh be tax advantageous but yeah again the fact that most people are coming from a retail investment space uh they know what they've been trained on and that's as far as it goes um and unfortunately for a lot of these other advisors that's kind of the attitude that they bring to the table as well is oh that's nice i'm glad you're working on it when it finally sells and you have that money let me know and i'll tell you what to do um but again by then you know a lot of the opportunities have been lost uh and yeah that um you know with a 60 40 uh all assets correlate in down markets right so that's really the biggest threat and especially when you have that sequence of returns risk or volatility tax because you're drawing an income from it uh you really need to be diversified beyond uh what most advisers you know especially if they're attached to a broker dealer are even able to offer and and that's part of the problem too is um that principal agent problem of you know either they don't know it uh the advisors don't know it uh or if they do know it but can't offer it they're not gonna suggest it because then all you're doing is teasing the client they're like why'd you tell me about it if you can't do it uh so to really do the foundational work of being able to offer these solutions to clients um yeah really counts and then so okay so i'm selling my business for 10 million dollars i'm essentially rolling you know close to that 10 million dollars right into the the 453 trust what are the kind of covenants and restrictions for like what i can invest in what i can invest in do i have to take distributions like what are kind of all the restrictions of of using this kind of vehicle gotcha um so so the way that's exchanged is then the client is going to have a promissory note uh by default it's 10 years because the law says it has to be some number you can't just say perpetual now the strategy there is when you're in year nine you can then work with the trustee to renegotiate and say you know what i'm willing to update these terms and extend it out another 10 years part of there's also that that withdrawal rate or that um you know the the percentage that you are taking out uh that can also be negotiated uh the irs does not like to see that you're treating it like an atm machine or a piggy bank it can't be willy-nilly it has to be some kind of structured payment um but it's also reasonably accommodating and flexible that if you think hey i'm only going to need two percent and then six months into the year you're like oh this is actually kind of tight you can revise it up to three uh if you realize that you don't need that money up front there's ways that okay maybe for the first couple years you're deferring completely and then you know maybe you're taking more down the road so it's it's very flexible and accommodating is there some sort of like minimum distribution by law that you had to take earned that's a good question for the lawyers there might be you know some of these things it's like what's the legal definition of a loan and below you know point zero zero one percent maybe that's not considered a loan anymore there may be some uh minimum in that sense i haven't encountered that because most people are usually interested in getting something uh often it's like one to three percent that they're pretty comfortable living off of now because i was making me think about i think when derek siver sold cd baby he put it in like a charitable trust for like music education where he got to draw on it until he died and then it went to the the musical education but i believe like when you set up terrible trust like the distributions have to be a minimum like four to five percent but i may be misunderstanding that yeah so yeah charitable trusts are much more structured uh that's also something i'm not as familiar with i would defer if somebody who really knows um you know foundations and uh you know non-profits and creating those kinds of structures i will say that the benefit of doing something deferred sales trust is that it buys you the time to do those other things i've seen far too often in you know speaking with other exit planning professionals where um because they're trying to capture that tax benefit uh they're going after maybe their fourth or fifth choice of preferred charity because they were the ones who could file the paperwork by the necessary deadline to get it done whereas if you defer first then you can figure out what you want to do from there and it takes that pressure off that you get to take the time that you need to do it right as opposed to having to work within the framework of you know the irs and tax rules so it's technically possible to roll a deferred sales trust into like a charitable trust in the future yeah too much uh i mean at its most simplest that's just a distribution that then you're contributing to a charter major trust yeah so it's so it maximizes the flexibility of options that you have available to then do it down the road whereas doing something like those charity trusts once you've done that that that's locked in you know so you really hope okay i did this the right way and if it's a year into it and you have you know uh buyer's remorse you're stuck with it but it's not a taxable event to move from the deferred sales trust to the charitable trust uh i will honestly have to check with with a tax advisor i offhand i suspect it would be that you would have a distribution and then a contribution so that they would balance each other out um but if it would have to be a direct rollover i'd have to check there may be some way to do that all right and then i wasn't tracking the promissory note and then and the 10-year duration is that like an accounting convention where you're basically you're forced to take a loan against the charitable trust just the way that's set up or like how does why is the promissory note necessary so because the 453 is structured as an installment sale uh the promissory note is the financing of how the installment is being paid with the idea of generically you're gonna get one percent a year for ten years and then a balloon payment on the back end the idea is we're trying to kick that balloon payment down the road for the rest of their natural life then you know when they when they pass away it is still outside of their estate there's some um taxable events that occur at death but it does also create multi-generational wealth outside of their estate um from that as well and usually there's like a life insurance component as well to knock out those taxes that you're getting you're taking advantage of that i want to get to the life insurance in a second but essentially yeah you're saying like within nuance you could keep moving that balloon payment that pro or that promissory no no rolling 10-year periods or something like that right and that's kind of the nature of all uh estate planning is there are these structures that are arms length enough that you don't have enough control that you're considered taxable um but you have enough influence on how it's going to benefit you that you can you know steer it in the general direction of what's appropriate for you so this is interesting piece because that arm's length control so that that brings me to the next question is like what can you actually invest in with this 453 and then how do you create that arm's length even though you want to choose what your investments are going to be yep uh so the investments is you know the obviously the um you know the beneficiaries of the trust are going to be included in that conversation really it's the trustee who's kind of making that ultimate decision as far as how it's invested um but you know trustees are amenable professionals who understand how this works and this is what they do full-time so they're on the same page um and so as far as what to invest in um part of it has to be professionally managed in order to fulfill the ability to pay out that promissory note so there has to be some level of professional management that we know you know that you're not investing in something that could all go bust and then that's going to wreck this whole um tax referral scheme as well um but it is possible to take a portion you know let's say even up to half where then it creates an llc uh where the let's see if i remember this correctly it's like an 80 20 split between the trust and then whoever the other company is and then that becomes self-directed and if they then want to invest in real estate or their next business or whatever that is that llc is now an asset within this tax deferred trust to carry on and grow just like any of the other investments and then is there anything like i remember when i was looking at pplis like private placement life insurance is like sometimes there's restrictions that like you can only have a minimum in certain investments do you have proper diversification is there any sort of like restrictions around that uh but so again it's a restriction on making sure that enough percentage is professionally managed such as by myself uh to satisfy the withdrawal rate or the interest rate of that promissory note so as long as we feel confident that we can meet that number the remaining balance is open and again it's not uncommon for have to be professional and have to be uh self-directed got it and then even if it's all professional and you're managing it is there any restrictions where you can go public private go anywhere vc illiquid real estate is there any any sort of restrictions that you're able to invest in um so right any so because they are at that point an accredited investor because they have at least the million to qualify um you know or the two or three hundred thousand um of income then yeah then then it's open-ended right they're considered a sophisticated investor and that's part of having that conversation is um you know this might be that threshold moment where they are now entering into that world where uh you know more than just the retail spaces available got it and then like you're saying if you're moving the trust down the line you're obviously going to want to put your kids as a beneficiary of the trust and is that eventually how you're going to avoid estate taxes or how does that get mitigated upon death uh so part of that is that the um uh that's what i'm looking for the you know the living trust of the family uh is generally then made to be the primary beneficiary of the the trust income generation from that promissory note and then yes there's usually also a life insurance component life insurance pays out tax-free you're paying for that life insurance from the income that's being generated from inside this trust so you're already very tax advantaged with that and then when that moment occurs you're at least getting if not exceeding through that tax-free death benefit to offset whatever taxes would be incurred so just if i think about it philosophically you have the trust and then you can wrap it in the life insurance and are you wrapping it in like a ppli or what's the typical life insurance that you're using to wrap the trust in uh so the trust so it's not that the trust is wrapped in it the trust is as an um the trust is going to pay for life insurance that then benefits who you know who's paying the taxes essentially and those sort of ppli options are available um you know sometimes that makes sense usually by default what we're going with is um premium financing of life insurance where then we're getting a bank to foot about two-thirds of the premium commitment and it's an accelerated contribution schedule so um you know the client or the trust in this case is really only paying half of the first five years premium uh the bank is paying the other half for those first five years the next five years the bank is paying all of it it cooks for another five years then the bank is getting its loan back plus interest but because you're getting that arbitrage between what a life insurance would pay and what the bank interest rate is you're capturing all of that and it greatly accelerates um the cash value of that policy and the financing on the bank side is it pretty low because it's tied to a life insurance policy like the the rates are so that's the minimum that's the benefit too um you know for a long time trying to do premium financing was onerous a lot like getting a mortgage you had to get individually underwritten and the bank had to know how these things work um i work with a team where they've made all of that uh turnkey and the asset itself is what secures the loan so they don't even go through a credit check in order to get this um the the bank uh has an automated process where you know they're the first um you know the first uh collateralized of it that you know if you miss a payment or it doesn't work out you know the bank's going to get their money back first um but that's all that's required in order to secure the loan and so part of that so the uh sorry the trust is paying for the life insurance and you're using premium financing with the bank but is there any like restrictions like sometimes like let's say if i'm 50 years old i sold the business for 10 million and i want to get that 10 or 10 million plus in life insurance isn't there only a certain amount i can stuff into that life insurance policy via the premiums every year like there's restrictions to that is there not so okay so yeah if you're thinking of uh the seven pay test unless you're not a non-resident alien um yeah so so there's a limit to that that's what's calculated um you know you just have to maintain what they call a corridor that the death benefit is a certain amount above whatever the cash value is but you're structuring the policy to to meet that and doing you know jumbo policies is not uncommon in that case so so if we we're starting from a design standpoint of okay where do we need the cash value to be and then build the policy around that yeah i like this separation much better of having like your investable trust and then just buying life insurance outside it via the trust versus whenever i looked at whole life or ppli and forgive me for anybody that does this for a living i was always like very concerned with a lot of the excel sheets that they present and then and more importantly to make sure that the actual person designing the contract has dotted their eyes and cross their t's so to make sure like the insurance company can't screw you on the back end is like there's a lot of liabilities there that i i felt uncomfortable with where it seems like you're you're mitigating a lot of those by just buying the life insurance via the trust is that fair uh yeah i think that's fair um you know i certainly have nothing against ppli uh it's a fit for right people but yeah you're right that and kind of like with the trust itself you need to make sure that the investments are going to be able to support the structure uh the same way that it has to support that promissory note um and when you get into more exotic investments um you know the actuarial process for that is perhaps murkier than other assets that um i want to say more well understood but yeah i think we do come back to that problem too of uh you know expected return pest performance is no indicator of expected return um so yeah it as far as the flexibility of the pool of investments that you have in the structure and that you're not tied to a limited um investment selection is the important part there all right so i i sell my business i set up the 453 trust i'm buying life insurance from the trust um you're investing the proceeds from from the trust can you i'm assuming you can also combine liquid and illiquid like you and i've talked about this privately like if you have a well-diversified fund but then you're using the uh capital efficiency there to buy illiquid let's say real estate but the best part about real estate is if you can have a 10 to 50 year time horizon and you're just buying rehabbing refinancing and just keep rolling that forward is that that's doable within the 453 yeah uh yeah that's all absolutely doable um that so that structure even though you know the cornerstone or bread and butter of what we do is exit planning this applies just as well to commercial real estate uh that's very common in what's marketed as a 1031 rescue so if we work with the qi ahead of time and they're not able to identify you know within 45 days or whatever it is or can't close within 180 days or whatever that is um and you know okay it's going to roll over this trust and that you're going to get that tax deferral and you know sometimes in real estate they know that's like a bargaining tactic that we're going to take you up to the very end of the date and when you don't have that and you're confident that okay you know you can walk away from that situation and still feel whole uh that can help you with that as well and then what else am i missing on from the 453 i'm using it for my investments i'm using it to buy life insurance what are other like tangential benefits that i'm missing that you you have the ability to allocate via the 453 um so because it's opening that whole world of um you know accredited investing that we're talking about more than stocks and bonds right with you know the stuff that we deal with in terms of you know long volatility positions or commodity trend following or you know physical precious metals um you know they diversify your diversifiers right so the ability to actually have access to all of those diversified diversifiers um it works within the structure also because you know this isn't a um an erisa instrument right that uh there are restrictions on what you can invest in in a 401k or an ira um this because it's still technically non-qualified money uh does not have any of those restrictions it'd be the same as you know if you were just investing from um you know a taxable account got it and then i'm trying to think like if is there a minimum sales price for a business where this makes sense or it's like if if you get down to like one to two million to five million does it just cost too much to set this up and you don't get much benefits or like what do you recommend the minimum sales prices for you want to set up you know the deferred sales trust it's pretty efficient so yeah that's a great point that you know uh fees are somewhat fixed but benefit is variable right so there's going to be a point where it stops making sense but that points pretty reasonable that as long as there is at least uh 250 000 of capital gains it's probably gonna make sense very interesting so is there a way to you know obviously i'm gonna pretend like i'm not asking this from a personal basis but if i if i haven't sold my business or not plan to sold my business is it is it possible set up like a 453 trust like without obviously sales deferred so it's probably not but like what would be the equivalent as i'm building a business and i want to put stuff away into a trust that would be similar that i can invest in kind of go anywhere policies is there anything similar to like pre-sale that would be similar to like a deferred sales trust uh yeah so the two that come to top of mind uh one is an 831b captive insurance i know especially lately people worry that you know it's on the irs's thirty dozen realistically most of that is because of you know it it's because of how people who are structuring it to really push the boundaries of what they thought they could get away with that's why it's come under scrutiny uh but again the team that i'm working with or teams i work with on this they're much more conservative but and they have a long track record of doing this because they don't want to go through all that you know if if this all blows up because the irs it's not actually worth anything to anyone right so why why risk it um but that's a great way that one especially if you're in a business where you have risks that are difficult to ensure i mean just from the legitimacy of having this uh privately held insurance company uh going through a global pandemic where suddenly the supply chain stops existing or your customers evaporate overnight that's a risk where you could get and people my clients did they got this payout that provided the liquidity that got them through that uh period of uncertainty and they could figure out where to position to next um you know uh people who are youtube stars and they're worried about being the platform from youtube because there's not many viable competitors to that and you no one really knows how uh you know those terms and agreements are going to change over time so there are all these sorts of certainties that are not normally covered by like typical business liability that that then can cover and pay out and those are tax favorable payouts um but then assuming you do a good job in uh estimating the risk of the policy that you're covering that the excess premium is then building up in this company that you own so you're able to deduct the premium as a business expense but then it's going to grow into in this other um entity that you have and if should you decide to take uh dividends from it it's long-term capital gains so it also has a tax advantage as well that if you you know don't end up having a lot of emergencies and are able to build up that cash it's not being you know thrown away to some insurance company never to be seen again you're still retaining that and if you have a lot of luck and retain it for long enough um they're going to be able to withdraw from that as well on a tax faithful basis um the other one is kind of going back to life insurance a bit uh you know the gap between the benefits of s corp and a c corp have closed because of 2018 tax law and if you have that separation of entity again you're able to use that premium finance life insurance combined with a split dollar loan regime so as opposed to say a typical 401k which if you have a small closely held business maybe it's a law firm or a dental practice or medical spa or something like that one uh i think even michael kitz has did the analysis on this that the return on investment doesn't break even on a 401k a typical 401k until like 20 to 25 years down the line but people do it because they say oh that's what i'm supposed to get or when they sign up with a payroll company the payroll companies like why don't we just add that on to and that's as far as anybody's ever thinking of it but if you're working with you know a few employees who are highly compensated like key man um it makes much more sense to do this you're free of all those erisa restrictions which is a lot of overhead and the you know generally the risk adjusted return is much more favorable as well um and because it's split dollar loan regime you know loans are an income so the money is going to you as a loan and that loan gets paid back from death benefit which again is tax-free so that's always kind of the um i could say loophole but the way life insurance is often engineered is uh you're using that tax-free death benefit to pay taxes that you would otherwise owe but within that regime my problem always with like whole life and all this other was very restricted what you can invest in but with the split dollar loan you still have the opportunity to kind of go anywhere and invest in you know hedge funds assuming you're accredited and everything so with with premium financing yeah that it is using um indexing or which is basically ginned up fixed yeah because they they want that hedged bet right they want to know there's a zero bound that it's not going to have you know again that sequence of returns risk that you have a big loss in one year uh so of course they do cap it on the other end um you know everything comes down to a derivative strategy um that's generally what they're looking at and because you're getting the leverage the tax-free return that you're getting from that tends to justify it especially then if that's also your bond proxy or the part that is liquid conservative you know you can rely on um even just straight up for a business owner they say okay i'm gonna do this yeah rough estimates let's say maybe it's like two million is space that for someone maybe in their 40s again you know this is not advice but very very rough estimates um you know that could make sense where they know okay no matter what else happens i've made those five payments everything else has set it and forget it the business goes bust i lose everything else i'm still going to be pretty well off and comfortable in retirement so because they have that confidence that they're not worried about losing everything now they feel free to take more appropriate risks with everything else that they're doing and then you you touched on the one i hid on earlier with captive insurance so that always makes me nervous of the people i've talked to and i'm sure you've dealt with them many many times and you said well there's a way to do it and be conservative but how do you like allay my fears about that like just by saying we're conservative like when you're working with people like what's the other way to talk about captive insurance um yeah that the legal structure is done right and i mean so also right this tax code exists right if the irs really thought it was tax evasion you wouldn't have that part in the tax code you know it's there because it's meant to do something um also i have to remember the statistic on this but basically every major company uh has a captive um i'm as a kid visiting walt disney world and maybe i'm just that kind of nerd but somehow got to talk about you know i wonder what the insurance is for liability with you know all the animatronics and things that could go wrong and disney employees are very well trained they won't just bs some answer they will go and find out the answer for you and they come back and basically yeah disney's had this uh captive since i think like the 1970s um in order to self-insure all of that so you know it is a strategy used by you know every major global company or most i don't want to say every but many of the global companies that you've heard of and so this is you know one of my random outside the box questions so forgive me if you don't have an answer for this one but i always wanted like i'm sure you feel the same way it always drives me nuts how much like health insurance is for entrepreneurs and i think about the way we've structured like mutiny funds and cockroach and we have all like hundreds of lps and most of which are entrepreneurs i've always wondered can you set up a captive insurance and then in bulk we can start negotiating on on health insurance for entrepreneurs and lowering that cost yeah so so that exists i have people who do exactly that as well um and a lot of companies are finding that that makes sense also because they can control costs uh they're not just paying out every claim that comes in they can then work with the employees or tailor it to to suit them best for what they actually need and when they're doing that are they uh pairing it like a high deductible with like an hsa plan and then they can invest that as well or uh it it depends yeah the details depend on the company and the implementation um yeah sometimes it's you know the hsa or hra is a piece of that um uh and then yeah the bulk or major events um yeah that is a little slightly outside of my wheelhouse i have the ex i know enough to kind of bring it up and talk about it but i definitely have people who know all of the intimate details of when it's most appropriate to use what combination as far as uh you know health and health captives are concerned yeah i have a uh a stupid dream of of building up the largest like hsa policy in the world like the way like teal and everything has ever done with other plans but nobody i don't think anybody's quite done with the hsa yet but it has that that triple tax benefit and if you could if you had a a high return high ball strategy that didn't blow up it would be an interesting way to build up a nest egg so the version of that that would be much more doable because the restrictions for straight up hsa are very onerous that the politics behind that have never really been able to iron out but a lot of people don't know there's also so everybody's familiar with the um 401k there's also an option for defined contribution for a 401 h and that is also where you get that triple benefit of you're deducting it pre-tax but then when you're retired and you're spending it because it's medical expenses you're getting the tax deduction so you're not paying taxes then either and so in cases where you know again part of building up the company early on we're doing a 401 h combined with a pension plan to really maximize tax deferral uh yeah that's a scenario where we could probably hit the numbers necessary to do a you know a sophisticated investment strategy like that we're going to talk about that offline as well so um we talked about working with the clients you know maybe two years out pre-liquidity event getting their um structure and books in line that way they can get the maximize the multiple they're gonna sell to yeah talk about the different strategic buyers versus pe firms when we're going into that liquidity event um setting that up the 453 deferred sales trust you know prior to doing all that so that way you can defer that sales into the trust and you get the bulk of that money on the liquidity event then you have your trust set up somebody like you is managing that trust and and really diversifying and and trying to figure out a proper income stream that that the person is looking for uh you also using like you're saying premium financing to to build in the life insurance as part of that as well what after that is ongoing is it like quarterly annual basis where you're reviewing with the client or or with hands off can you even talk to them about what you're investing well so uh i'm working with the trustee the trustee's going to be on that call and then the beneficiaries of the trust are generally cc'd on everything so they're going to get copies of the statements and they're going to be in the loop and yeah we want to make sure they're on the same page as well because the trustee also has to know how to act in the way that is best beneficial for the beneficiaries of the trust right um as far as how frequently those reviews are held again a lot of that depends on the client there are some that say you know what give me an update once a year or unless something happens you know if there's a big market crash give me a call let me know everything's okay um others want that quarterly review you know maybe they have more complicated things going on there's other estate planning issues of they've remarried and have a blended family or you know they're bringing their kids into it or you know they're so yeah it very much is tailored to the client as far as as much or as little hands-on as they need but generally a benefit too of using something like uh where you have more of those diversified diversifiers that you're really protecting against those um drawdowns is you don't have those panic conversations of yeah i know the s p 500 is down 20 right now don't panic stay the course uh you know but you know you're you're talking them down off the ledge i'd rather they're not getting on the ledge to begin with and when you actually have a portfolio that's diversified i mean i just had a conversation with another advisor earlier today and he gave me that standard line of oh well we were diversified in a typical uh 60 40 kind of way so we're only down 12 percent instead of 20. we are still down 12 uh you know that's not that's not a win um it yes it could be worse but it always could be worse right um so yeah having having that worked out ahead of time is part of that process of you know that you're looking out for the client both materially as well as psychologically and then is there anything from a regulatory perspective on the trust for distributions whether annually quarterly or monthly or is that up to the client uh you know it's up the client coordinating with the trustee but yeah whatever is going to benefit uh be beneficial to the client uh those are all the standard options the the biggest concern is it can't look like a piggy bank right so it can't be uh they start taking a monthly income and then they want to buy a boat or they have an opportunity to buy a vacation home and they say i need you know a sudden distribution that that'll that'll make it uh you know that could mess it up so there has to be some kind of reasonable adjustment of okay well apparently what you're really saying is that you needed more income on a recurring basis we're going to go back and rewrite the note there's a little bit of a fee to go back and do that kind of like adjusting a mortgage um but then you're gonna be have access to you know more of the money from the trust uh you know that that that you need um so that is one way of doing it the other is sometimes those kinds of events like if it is you know investing in real estate that you're not going to live in yourself again that's something okay well maybe that's something that could be done inside the trust as opposed to money that actually has to come out for you to use but part of that though due to the arms length rule with the trustee can the client tell the trustee that they're interested in this piece of real estate or they're just interested in investing in real estate uh so an llc is going to be created where they are i believe they're the 80 owner and the trust is then the 20 owner but so because they're the majority stakeholder they're able to direct where that goes but the trust has in the trustee has decided to invest in that llc as part of their overall portfolio so outside of carving out that llc when you're setting it up with the trustee you're going to have to want to have a lot of long conversations as the client about a broadly diversified portfolio and what the trustee is going to implement because after they put it into practice you can't really have too much input it's from a regulatory perspective right um yeah there has to be there should be an understanding of you know what the investment goals and strategy is going to be um yeah which which again so in practice psychologically that the secrets of events tends to be you know we're interested in all this minutia of investing it's not interesting to most people their eyes glaze over it goes over their head they don't really understand it nor they necessarily want to understand it oh then they want to know is my money safe am i going to be able to live off of this am i protected if there's a market crash uh but the hook to get them there to a place where they are going to give you some undivided attention and talk for 50 minutes about the parts of that that they do need to know that here's mechanically how it works this is how we're managing risk this is how we're going to protect you it's once they know they're saving that you know 30 40 off their taxes that okay you know i'm listening and then you can have that conversation of by the way how this is invested to not you know to also in the back of the mind they're worried about what if i lose half of it because of market crash we've addressed that um you know if we're doing our jobs correctly we have the diversified diversifiers that you're not going to have those big drawdowns which compound over the long term is much more effective than trying to uh hit home runs and then i'm obviously setting you up with this one because you brought it up with like other financial advisors or usually just doing the 60 40 and it's do you think it's just cya just cover your ass and it's just mimesis and everybody's afraid of looking different is why they don't provide that their clients well the majority are still just recommending 60 40 portfolios after they have a business sale that's that's certainly part of it i mean so all of that whole confluence of all of that plays a role right that you know they're working with a broker dealer and that broker dealer is very rigid as far as what they're allowed to do and what i'm not allowed to do you know maybe you're not allowed to use outside software except for the one designated portfolio construction software that that firm has implemented so you're not able to talk about anything that's not offered on that menu uh there is a bit of professional risk that you know again it's better with entrepreneurs than people who might have you know executive vice president of a company and maybe they have a big concentrated stock position but you know they've been in management their whole life and so they'll come into it and oh well you know i read kiplinger money magazine and i know it's supposed to be you know low fee index funds in a 60 40 because you can't beat the market and you try to talk about in anything different and you know you're fighting an uphill battle and it's just not worth it uh so they do have to be somewhat amenable to thinking through it themselves if they have someone who can explain it in a non-overly technical non-jargony kind of way on why that's the better alternative but to get the sword to sort psychologically the right kind of client and to hold their attention long enough to have that conversation that all has to be teed up as well right like it's a it's a long-term relationship like you're saying if you especially if you want to do pre two years pre-sale like obviously this is a very long term and it's is that that hand holding and finding the right clients is always the key for you it's a process yeah it's a process of earning their trust through that process as well so so often i mean again the ones who are ready to sell i can have that conversation and if they're that urgent you know then they are kind of willing to make that decision on their own but the ones where we're just talking about hey this is a you know probably the biggest asset that you own and it's worth something and you're gonna need to sell it off to somebody someday you're gonna earn their trust because you brought it to them right it's like inception you brought up the idea so you're going to earn their trust doing the smaller pieces with their business like the captive insurance or the 401 h plan and once they see that in practice then they're going to trust it more for when you get to the big liquidity event yeah i mean i would think like how many business owners when you talk to them i've even heard of like a 453 deferred sales trust i mean you're earning their trust right away because i'm using trust twice there but like you're earning that right away because you're you're introducing them to new ideas that they're going to love for mitigating their tax consequences of selling their baby yeah so a key part of that too it's a it's a big tent doing an exit plan uh i always want to emphasize that if they already have their favorite cpa maybe it's a cpa that their dad introduced them to 30 40 years ago and trust them implicitly but they also haven't done ce or kept you know this this is too exotic or outside their wheelhouse to you know for something they would know about um or you know other advisors you know maybe they already have a financial advisor for like their ira's retirement plan or something like that nobody's getting pushed out of the nest you know everybody can be included in this conversation we're not trying to exclude anyone uh but this is a you know a unique uh specific complicated process and there are things in it that you wouldn't hear about otherwise and that is also the biggest concern a lot of clients have is they know it's kind of their one shot and because they've been successful they're very cautious about not screwing up and because they can't really be in control you know they're relying on other people to do a good job there's a lot of tension there that they really want to trust but verify and figure out that's the case um having the cpa on board um for you know the accountant or the tax advisor and especially having the m a team who is brokering the sale to have them on board is very important this as well in my experience if they're already working with some firm and you know i meet them at some event or they're talking about it and i mentioned well you know did they bring this up and you say yeah you could have deferred all these taxes if their team that they've already selected and trust hasn't brought it up psychologically in their head even though they could go google it and find out that this is correct and save you know millions possibly tens of millions of dollars they're gonna think well i picked the right team they didn't mention this so if this other person mentioned it and they didn't it must not be worth doing worth looking into and people can really shoot themselves in the foot because of that so getting uh you know everyone on the same page in that team of what's available what they can do and that their the client isn't getting mixed messages is very important as well now that's extremely important point you hit on that the team aspect of it because yeah nobody wants to fire their family cpa to worked with some guy they just met so that's that's a perfect way of looking at it that's that's great why did you name your firm tanhauser uh and i pronounce that correctly yes uh so yeah it's like the um you know like the opera or like the uh fairy tale um i i do wish i had more of a story to this part of it was i i was and when you have to go and do branding especially because now everybody's a brand finding the domain that isn't taken finding the firm that isn't already using that name uh is in and of itself a challenge and really it was a matter of just kind of ideas that popped into my head and oh let me see if this is taken and when it wasn't and i could kind of grab everything across the board um okay i'll go with that just describe the bane of my existence coming up with great company names and then googling it and knowing it's taking it like everything's always taken it's it's impossible but i did just did snag as a domain name exit dot finance i'm kind of proud that i locked that there you go yeah yeah use the the different endings on these domains these days so i want to thank you for coming on to to talk about 453 and deferred sales trust i think it's hopefully highly valuable for a lot of the entrepreneurs in our audience i'm probably have to get you back on again because what most people don't know that i've learned is you're you're quite the economic historian especially uh specializing in in austrian economics so we could do an entire podcast or series of podcasts just on that alone and like yeah like you you're always teasing me i think you should write several books you said should i write a book i think you should write several books yeah i i would like that to come back on uh if only because i think we can revise the way that you your definition of malinvestment or the way that you think about it your malinvestment is somebody else's opportunity right so it is um you know we thought it was fit for purpose a it doesn't work out it gets liquidated but somebody else then says okay i can do it for you know plan b and then it then it works out right yeah or my my thing is actually it's a time horizon thing over a short time resident might look at mal investment over 100 200 years it looks like beneficial invest or creative investment we just don't know that's my point is like how do you know when the time horizon you're looking at and that's that's the bane of every entrepreneur and you've touched on this point before as well yeah you know what happens if you run runway you know i mean an idea hey if i get this done in ten years is gonna you know be the you know the next elon musk with a rocket to mars but if there's a credit crunch and your funding dries up and you're in year six it's not sustainable anymore exactly uh thanks sean i appreciate you coming on and i look forward to our future conversations yup likewise thanks for having me thanks for listening if you enjoyed today's show we'd appreciate if you would share this show with friends and leave us a review on itunes as it helps more listeners find the show and join our amazing community to those of you who already shared or left to review thank you very sincerely it does mean a lot to us if you'd like more information about mutiny fund you can go to mutinyfun.com for any thoughts on how we can improve the show or questions about anything we've talked about here on the podcast today drop us a message via email i'm taylor at mutinyfun.com and jason is jason immunityfun.com or you can reach us on twitter i'm at taylor pearson m e and jason is at jason mutiny to hear about new episodes or get our monthly newsletter with reading recommendations sign up at mutinyfun.com newsletter this podcast is provided for informational purposes only and should not be relied upon as legal business investment or tax advice all opinions expressed by podcast participants are certainly their own opinions and do not necessarily reflect the opinions of mutually funds their affiliates or companies featured due to industry regulations participants of this podcast are instructed to not make specific trade recommendations nor reference past or potential profits listeners are reminded that managed features commodity trading forex trading and other alternative investments are complex and carry a risk of substantial losses as such they're not suitable for all investors and you should not rely on any of the information as a substitute for the exercise of your own skill and judgment in making a decision on the appropriateness of such investments visit mutinyfun.com disclaimer for more information [Music]