Let’s dive into your magic number. Now the first thing you must know again is that I am not a CPA, financial planner, or attorney. You need to engage one or more of these professionals to determine your actual magic number. The numbers I am going to provide below are simplified to explain the concept. Your numbers will be different based on your tax bracket, your investment returns, etc. Enough with the disclaimer lets dive in.
So, in a nutshell your magic number is how much money you would need to invest in the stock market (or real estate, or whatever) that will provide you enough money every year to maintain your current lifestyle, a higher lifestyle or a lower lifestyle. It’s up to you. But the first step is to determine how much money you need to live. So, let’s look at Bob. Bob looked at his current lifestyle and how much money it takes to pay his bills every year, plus buy a new car every three years and travel. Bob has determined that he needs $250K per year to meet all those goals (his house is paid off). So, Bob’s investment needs to generate $250K per year. Now let’s say Bob wants to invest his money in the stock market and his financial planner has told him he should expect an average market return of 4% per year. This takes into account bull markets, bear markets, and is based on a long-term average. So how much money does Bob need to invest in the market so that 4% of that money every year equals $250K. You take $250K and divide by .o4 (4%) and you get $6.25M. So, Bob needs to deposit $6.25M in the market to earn an average of 4% return every year without touching the principle (your financial planner can give you a more accurate number that will most likely be much lower, this is just for simplicity). Now when Bob sells his business Uncle Sam is going to want a cut of that windfall. Let’s say Uncle Sam wants 40%. So, if you divide $6.25M by .6 (60%) you get $10.5M (rounded up). So, Bob’s magic number is $10.5M. If his business will sell for $10.5M then it’s time to harvest the wealth. If Bob’s current business is worth less than that, then we need to get busy transforming his operation so that he can meet that value in 3 years. Because Bob’s will be 55 and he is ready to start traveling. Now lest look at how to find your magic number.
(Yearly income needed in retirement) / (projected average investment return) / (amount left after taxes) = your magic number.
Your CPA can help you determine what your actual realized tax will be based on your tax bracket and the current capital gains tax. Your financial planner can provide you with a much lower magic number because they can slowly dip into the principle to help fund the yearly earnings based on an expected life expectancy using actuary tables. The main point to know is that you need to know your magic number and how to get there if you’re not there already.
At the end of the day the key is knowing where you are, where you want to go, and then putting a plan in place to you get there.
After you have reached your magic number the fun is just beginning. Selling a business is very similar to riding a roller coaster. Let’s examine the sellers journey.