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Estate planning for business owners Ensuring that your company keeps going after you're gone requires coordination, attention to detail, and frequent reality checks For most owners of closely held companies, there's more to estate planning than just coming up with an exit strategy. In addition to calculating how to get out, you'll want to focus on estate liquidity and survival of your business after you've stepped out. Nine out of ten U.S. businesses are closely held. They account for over half of the gross domestic product and pay out 50% of all wages. Yet, thanks to inadequate or unrealistic succession planning, fewer than one in three is likely to survive a transfer to the next generation. Whether your company beats the odds or becomes a statistic is largely within your control, provided you're willing to tackle the often uncomfortable and lengthy process of coordinating your personal and business plans for the long haul. Following are some considerations that you should include in your planning. The buy-sell agreement. Because most business owners who take the time to have an agreement drafted do so when all is well among the owners, they are operating in an atmosphere of trust and goodwill. For this reason, it is advisable for each owner to obtain independent legal counsel to re-view the agreement and anticipate problems that may arise in less harmonious times. Special attention should be paid to which events will trigger a purchase and sale and to how the purchase price will be determined under the different triggers. Mechanisms should be provided for annual review, with a fail-safe built in if the reviews are too infrequent. It must be remembered that the price agreed to, as determined by the agreement, may be enforceable even when it falls significantly below the fair market value established for federal estate tax purposes. Sources of rights and obligations. Anything that restricts or controls the right to transfer the business interest affects your ability to establish an effective estate plan.
Reality test. "Is this realistic?" Applying this question to every decision and planning goal is your best hope of warding off manageable disasters. How realistic is an estate plan that leaves all assets, including the business, equally to all the children, when none of your children are involved in the business? When some, but not all, are involved? When all are involved but to quite different degrees and in different capacities? Is it realistic to plan that the kids will sell the business and split the proceeds of sale? Who will be the buyer, for how much money and on what terms? How soon will they have to sell? Will they have the luxury of shopping for just the right buyer? Who will run the business in the meantime? Will they have the cash to keep it going until a buyer can be found? Can Mom and Dad answer these questions today? If not, is it realistic to believe the kids can when the time comes? Fairness, not equality. Parents generally say they want to treat all of their children equally in their estate plan. That sentiment often dictates the terms of the estate plan (and sometimes the business succession plan) to the ultimate detriment of one or more parties. Treating the children fairly, rather than equally, usually results in a more workable estate plan and produces the result the parents actually intended. The goal is not make everyone equally happy with the result, for this is generally not achievable. Rather, the optimum result will make everyone equally happy and equally unhappy, a more realistic result when trade-offs are required. Fixing value. Where possible, fixing value of the business in the buy-sell agreement for federal estate tax purposes adds greater certainty and predictability to the estate plan. To determine the path that must be followed to fix estate tax value for the business, consult -- or, to avoid a migraine, have your tax attorney or CPA consult -- Internal Revenue Code § 2703 and related case law. One requirement that often deceives the business owner is that the rights, restrictions and established value must be binding in all instances during lifetime as well as at death. Most business owners want to be free to transfer interests to family members without having first to offer the interests to the other owners. The trade-off for this unrestricted right to transfer is the inability to bind the IRS to the established value for estate tax purposes. Ability to buy vs. obligation to buy. The buy-sell agreements and estate plan often rely on the creation of an obligation in someone to buy the business upon the triggering event, or at the option of the estate or heirs, without adequately addressing where the money will come from. Without adequate provisions to ensure that the money is in the hands of the person(s) with the obligation to pay, an estate plan can fall apart. Insurance plays an important role in providing money when and where it is needed. In determining how much insurance is needed, your planning professionals should advise you on these very technical issues:
Clearly, reliance on the various business-friendly sections of the estate tax code cannot be a knee-jerk reaction to the problem of payment of estate taxes, but must be carefully thought out. Based in Mesa, Arizona, and serving closely held businesses in the East Valley, the Phoenix area and throughout Arizona, Schmidt Westergard & Company, PLLC, is an independent full-service tax, audit, accounting and business advisory firm focusing on the middle market. |