While it may be an unwelcome thought, with Australia’s aged population having increased by almost 20 per cent since 2010, it’s one that more and more of us are having to face.
Nick Young, managing director of Trail Homes, comments: “The average age of the broker market is increasing – it’s quite noticeable when you go to PD [professional development] days and events, the age of the people in the room are regularly in their 50s. That’s a fact. That partly comes from the fact the industry itself has matured. The first mortgage brokers in Australia may have been an ex-banker in their early 30s and joined the industry, so they may now be between 55 and 65. So they’re really the first crop of mortgage brokers coming through to retirement en masse. Back in the early noughties, everybody was young and nobody had decent sized trail books. But there is quite a crop of them now.”
While most business owners/managers envisage themselves eventually retiring or selling their business, it’s often not until they reach retirement age that they begin to actually consider who will replace them or carry on the business without them.
A recent poll on The Adviser found that nearly three-quarters of respondents do not plan to retire in “the foreseeable future”, but, according to Jeff Zulman, managing director of Book Buyers Brokerage Services Australasia (BBBSA), those just starting their mortgage broking career should already be planning their exit strategy.
“The day the people start their business is the day people should have a succession plan in place”, he says. “When you start, you need to think of your exit strategy. Of course, you want to plan what kind of business you want to build, but then you also need to plan for what will happen to it when you leave… You have to build that into your overall business plan so that you don’t retire by accident, you retire by‑design.”
An effective succession strategy can take up to five years to put into action, with the average being around three years. BBBSA’s Mr Zulman says that a good plan should include goals and strategies for the business direction and set out who will take over the in the future. He adds that while he likes to tell people to prepare for retirement at least three years out, having an idea of a succession strategy right at the beginning of launching a business can help if something unplanned crops up – like health issues, or a change in financial or familial circumstances.
Exiting the business
So, how do you go about actually putting a plan in place? According to Mr Zulman, the main step is to “aspire to have more than just your trail to‑sell”.
He says: “You should have a business to sell. Because that would mean you have created something bigger than you and something that continues to produce income for whoever decides to buy it.”
Mr Young agrees, adding that one common way is to identify who will be taking over and slowly shifting the reins over to them. He says that you will often see two companies come together, with one incorporating the other, and then slowly the primary (who is retiring), hands over more and more client work, and gets involved in less day-to-day running, until eventually they aren’t on the letterhead‑anymore.
By following this kind of handover strategy, it not only creates a smoother transition but, according to Mr Zulman, means that: “a) you get to earn more on your way out; b) you get the satisfaction of seeing your baby that you’re brought up live on under good hands; and c) the person who is buying it will feel a lot more comfortable that you aren’t just bolting out of the back‑door.”
He adds that those looking to find someone to succeed them should attend industry events and PD days to meet new brokers. Aggregators also can play a key role in matchmaking, as they know both the young guns and the older brokers, and can assist those looking to sell off a segment of their client database.
However, as the clients of the business are a major asset to the buyer of the business. Mr Young suggests that clients should only be told that you are retiring once everything else has been put in place.
He explains: “Clients need to be handled very carefully. They are the lifeblood of the business... If your clients sense that you’re wanting to wind back, that you’re maybe semiretired and just doing two or three days a week... invariably what happens, is that the clients start steadily leaving the business. They’ll think: ‘We will make it easy for you and go to that new, young pup who’s keen for our business. Enjoy your time down the beach, you deserve it’. It means all the good will that has been built up in that business over, potentially, decades just starts eroding away.”
To sell or not to sell?
The next step is to look at your trail book. Mr Young at Trail Homes says that some brokers may choose to live off their trail during retirement, while others sell their trail and live off the lump sum (which they often put into their superfund).
However, he warned that the former method comes with some pitfalls. He says: “Most mortgage businesses will reach an equilibrium where they are adding new lines at the front end as fast as old loans are being paid out. The trail book looks to be consistent, at, say $10,000 a month.
“They then have this idea that they can therefore move into retirement and the stability in their trail book will continue. But, they forget that they are not writing new loans and that the quantity of the trail will therefore decrease, plus, they’ll be paying income tax on that trail.”
He adds that clients may also leave the business and go elsewhere, which could further impact the trail the broker receives. In fact, he warns that run off could be as high as 20 per cent per annum. “That means that every three years, it pretty much halves. So, five years down the line and their retirement is looking awful.”
As such, Mr Young suggests that brokers sell their trail, which provides them with more certainty, and could potentially come with tax breaks (if they put the money from the sale into their superfund).
He explains: “Essentially, there are particular allowances under the Tax Act for small business people to receive tax exemptions, capital gains tax exemptions, when they sell… That is the difference between getting a little bit more or a little bit less.
“Depending on how you do or don’t plan [retirement] from a tax point of view, you can end up paying about 50 per cent of what you receive [from trail] in tax. If you plan it well, you can potentially pay no tax.”
What makes a good trail?
The current industry rule of thumb is that trail books sell for between 1.5 to two times the trail amount per annum. But some books can go as high as three times. They key is making your trail book attractive to buyers.
Mr Zulman says: “Mortgage broking books are good investments, especially in this time of low interest rates, because they give a good yield.
“But, you have to demonstrate that that trail is sticky, and can demonstrate a history of having contact with the client and demonstrate also multiple transactions, product sales or service sales, so the client has more than just a one-off. It’s so that person comes to them and takes out another loan. This way, the buyers know that the business has the best chance of living on for a healthy level for as long as possible, meaning that the lifetime of the business is elongated and extended.”
While it may be best to have had recent contact with clients, buyers are looking for older loans – which have less run off – rather than new ones. Mr Young explains: “A bit like wine, trail books get better as they age. The age of the loans is about the likelihood of any clawbacks. In the first few years of borrowing people often refinance for all sorts of reasons. So, any loan that has been written in the last two years, can potentially get discharged, which triggers a clawback of the upfront commission.
“So, older trail books are actually more valuable than younger trail books as they tend to be more stable.”
As an example, Mr Young says that his company may hypothetically pay $150,000 upfront for a group of loans generating $100,000 a year in trail that were settled a year ago, whereas that would go up to more than $200,000 if the same loans were settled five years‑ago.
Mr Young warns, however: “While we want the loans to be older, we want the clients to have had some activity recently. That’s what makes the book more valuable.”
He concludes: “It’s never too early to look at succession planning, and I think it’s going to become, over the next 10 years or so, an increasingly important issue in the industry because there are so many people looking at it.
“My advice? Get started early to avoid any shocks later on.”
Thing to be aware of
- If you have staff members that are entitled to a share of the trail, make sure it’s clear who gets what and what part of it belongs to the owner as opposed to the people who have written it.
- If you are part of a franchise, ensure who exactly owns the trails and that will dictate whether a sale can occur, and what the terms of any such sale would be.
- Ensure that clients have a relationship with you. If your loan writer has the relationship but you are the principal, you may find that there is some run off as the clients stay with the loan writer and get written elsewhere.
- Be realistic about the kind of prices you can get for your trail book. Do some market research and ask for due diligence on the book. Setting a bar too high will turn buyers off.
- Ensure that all your clients know who is taking over from you before you leave and have a cross-over period so that they have a good relationship with the incumbent before you leave. This irons out any kinks and limits run off.