Can You Afford to Buy-out the Retiring Partners of Your Firm?

Many firms are struggling with the prospects of paying retirement buyout payments for their senior partners who will be retiring in the next few years. In some cases, several partners will be receiving retirement buyouts simultaneously. The financial burden can seem daunting.

As we have emphasized in earlier blogs, make sure you first have the young talent on board to replace retiring partners and that you have a reasonable plan to put them in place as the succession team. Without adequate replacement resources, no financial arrangement will overcome the loss of business that is likely to occur.

Assuming you can replace retiring partners, in most cases you should be able to construct a financial arrangement the firm can afford and that will fairly reward retiring partners for the value they have built up over the years. Follow these basic principles.

Do a backwards valuation. The total compensation a retired partner has been making (when working full time) should probably be at least 50% higher than the sum of 1) the annual payments for retirement and return of capital, plus 2) the cost of replacing that partner’s labor. Labor replacement costs generally can be defined as billable dollars on that partner’s chargeable time multiplied by 40%. So if a retired partner’s compensation has historically been $300,000, the annual payments plus replacement labor should not exceed $200,000. That would leave a $100,000 cushion and some upside for the remaining partners.

If the buyout payments are too high using the above formula, try lengthening the payment period before reducing the total liability. Creating enough cash flow is the key to making the plan affordable.

About the Author

Terrence Putney, CPA (tputney@transitionadvisors.com) is CEO of Transition Advisors, LLC, www.transitionadvisors.com, which exclusively consults on succession and growth strategies for accounting practices nationally and ownership transition. He can be reached at tputney@transitionadvisors.com or 866-279-8550.

 

Leave a Comment