PANC 2016: The Importance of Succession Planning

Research shows fewer than one-third of adviser firms have defined a formal plan in the case of an unexpected death or disability.

Most adviser firms wait until something happens to determine business succession, Jason Chepenik, managing partner at Chepenik Financial, noted during a panel at the 2016 PLANADVISER National Conference. “There’s no time to plan, and shareholders have to come up with money quickly,” he said.

“For advisers, their practice is their biggest asset, so it is important to have a succession plan already in place,” added Troy Hammond, president and CEO of Pensionmark.

Chepenik, whose practice is a family office, told conference attendees there are two key things to have in place. One is a legal document that spells out what happens in the case of an adviser’s death or disability and what kind of multiple would be used to buy out that adviser. The second is life insurance.

He explained that partners should own life insurance on each other that will provide money to buy the shares of the other partners. They can cross purchase insurance or the insurance company can own the shares and the shares of the adviser who dies evaporates. However, in the second scenario, the survivors get the original cost basis of the shares, which would be more expensive.

Chepenik added that the legal document and insurance policies should be looked at on a regular basis as things change within the firm.

NEXT: Succession for non-family offices

Hammond, whose firm is a home office for advisers, said home offices already have a succession plan in place for their own advisers. But other adviser firms have asked it to be their succession plan. When someone retires, Pensionmark does due diligence to determine how much of the business is wealth management and how much is retirement plans, how much assets the adviser manages, the age of clients and their types and locations. He said the company will pay a higher multiple to Pensionmark offices and advisers, but a lower multiple to other firms.

“The fiduciary rule comes into play,” he noted. “If the adviser firm is the same type as ours, being the successor is easier. If the firm has a lot of best interest contracts in place, Pension mark has to take a look at all of them.”

As for cost, Chepenik said the cheapest way to fund succession upon the death of an adviser is with term life insurance, usually 10% to 20% of the value of the business. He said buy/sell disability insurance is expensive, but it depends on the age of the partner; cross purchasing is best.

Hammond said if an adviser retires, she can self-finance for the successor. The successor has a lower risk, but will pay a higher multiple. If the successor pays all up front, the multiple will be lower.

According to Hammond the multiple is one times gross value with death or disability if the successor has no relationship with the adviser, and it can be up to two or two and one-half times the gross value if the adviser sells her business and self-finances. “In some situations, though, the successor will be willing to pay a premium for the book of business,” he noted.

Chepenik said with a family business, the multiples are half of that.