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3 Things to Consider When You Hit “The Freedom Point”

 

When was the last time you calculated the percentage of your net worth tied to your company’s value?

When you started your business, its value was probably negligible. Unless you purchased or inherited your company, it wasn’t worth much when you opened your doors, but over time, the proportion of your assets tied to your business may have crept up.

Let’s imagine a hypothetical business owner named Tim, who starts his company at age 30. He has a little bit of equity in his first home and a small retirement fund. When he starts his business, it’s worthless, so it doesn’t yet factor into Tim’s net worth calculation.

By the age of 50, Tim has built up £600,000 worth of equity in his home, his retirement nest egg has grown to £400,000, and his business has blossomed and is now worth £4,000,000. Tim’s company has crept up to represent 80% of his net worth.

Tim knows the first rule of investing is to diversify, which he is careful to do with his retirement account. Still, he hasn’t managed to achieve overall diversity given the success of his business.

What’s more, he may have unknowingly passed something called “The Freedom Point,” which is when the net proceeds (i.e., after taxes and expenses) of selling his business would earn enough money for him to live comfortably for the rest of his life. Your lifestyle determines your Freedom Point, but when you pass it, it’s worth considering the risk you’re taking.

If this pandemic has taught us anything, it is that nothing is for sure, and a thriving business one day can turn into a struggling company overnight. When your business makes up most of your net worth and selling it would earn enough money to retire, there’s no financial reason to continue owning your business. You may enjoy the challenge, the social interactions, and the creative process of building a business, but keeping it may be unnecessarily risky.

When you’ve crested the Freedom Point and want to diversity—but still don’t want to retire—you have some options:

  • Sell a Minority Stake
  • Sell a Majority Stake
  • Earn-Out

Building a successful business is rewarding, but when your personal balance sheet gets out of whack, it may be worth considering the risk you’re shouldering and the options you have for sharing some of it.

Take 10 minutes to calculate when the sale of your company will generate enough to fund your desired lifestyle for the rest of your life. Discover how to reach financial independence, de-risk yourself financially, and live worry-free in the next chapter of your life.

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