In the financial services industry, the general term "succession planning" describes any number of plans to deal with an owner's departure from the business, whether the exit results from retirement, regulatory issues, death, disability or illness. In the case of disability, the exit may be permanent or temporary.

Looking for one all-encompassing solution to these many possibilities doesn't work for most practice owners. A more useful approach is to divide the concept of succession planning into two more specific categories. The first category is continuity planning. Continuity planning is a formal plan to deal with an owner's sudden death or disability (whether temporary or permanent). The second category, succession planning, is a long-term planned exit strategy designed to maximize the equity in a practice upon retirement.

Each of these concepts presents its own unique challenges, risks and tax impacts—and demands an appropriate solution. A temporary stand-in or guardian must have a different set of skills and on-site availability than a long-term successor at the time of retirement. As an owner, don't think that there is always one answer to both sides of the problem. While this may be true for some, it typically makes more sense to have separate short-term and long-term succession plans.

Continuity Planning

A catastrophe is never in anyone's plans. Nevertheless, when an advisory practice owner has a heart attack or a stroke, or is involved in an accident, someone has to take over. This short-term plan—a continuity plan—usually demands a different set of solutions than long-term retirement planning.

Industrywide, the advisor population is aging, and the sole practitioner is the predominant business model. Combine these two trends, and you have the makings of a problem. Statistically, only about 5% of advisors within any given network are subject to an event that will suddenly impair their ability to perform their financial and fiduciary duties. But older, more experienced advisors—typically those with larger, more valuable practices and more sophisticated affluent clients—are at greater risk. That makes choosing successors more difficult.

The challenge in continuity planning is really twofold: finding the right partner and structuring a plan that allows the partner to take over suddenly and quite possibly on a temporary basis. Because the disaster could happen at any time, a continuity partner must be able to take care of clients immediately and run the business, at least for a short period of time. But to make this happen in a reliable and professional manner, an agreement must be in place.

Several coaches in the succession planning field tell everyone that an internal succession plan is the best exit strategy. While that advice may be questionable for long-term succession solutions, it is generally true for short-term or continuity planning.

The first choice for a guardian for a practice, especially a temporary one, should always be one or more key employees or, in a family business, a son or daughter, assuming they are ready to fulfill that role. But in many small or solo practices, that luxury may not exist. Of the advisors who completed continuity plans with FP Transitions in 2007, 30% chose an external partner. Thirty-seven percent selected a peer in the same office or company, while only 33% picked an employee or practice partner.

Licensed employees may have an easier time filling in during a period of temporary disability. But when business values start to surpass $1 million, which is true of many practices today, many employees aren't comfortable. By separating continuity solutions from long-term planning, owners can solve this problem, making the employees part of the firm's continuity protection while seeking a long-term successor outside of the firm who is in a better position to pay for what has been built.

What happens if there is no apparent internal successor who can act as a guardian? In that case, the advisor needs to look outside and select a peer or colleague, preferably from the same broker-dealer network. A reciprocal agreement between advisors to act as guardians for one another in case of sudden death or disability is an excellent solution. Since it is also often accompanied with a right of first opportunity to purchase the practice, it may also set up the long-term succession of the practice as well.

Succession Planning

Planning for retirement is the enjoyable part of the process. This is a formal plan for the future, to make sure clients and their families are taken care of and to realize the value of a lifetime of hard work.

Long-term succession planning, as the name implies, gives you adequate time and consideration to decide who your successor will be. The quality and quantity of possible successors expands with the amount of advanced planning and may or may not include any short-term continuity planning partners. Ten years out is a good starting place for most owners considering the long-term picture. At that juncture, both internal and external solutions are still on the table and can offer the owner top-notch talent.