Three Levels of Business Succession Planning

  1. The succession plan basically has three levels. The first level of the succession plan is management. It is important to note that management and ownership are not the same thing. Day-to-day management of the business can be left to one child, hosting, while ownership of the business is left to all children (regardless of whether they are active in the business or not). It is also possible that leadership will be left in the hands of key employees rather than family members.
  3. The second level of the succession plan is ownership. Most business owners would prefer to leave their business to those children who are active in the business, but still want to treat all of their children fairly (if not equally). However, many business owners lack sufficient non-business assets to allow them to leave an equal share of the assets to their inactive children. Thus, a business succession plan must provide a means to transfer assets to children who are not interested or qualified to continue the business. Business owners must also assess the most efficient way to transfer ownership and the most appropriate time for the transfer to occur.
  5. The third tier of succession planning is transfer taxes. Property taxes alone can claim up to 45% of a business's value, often resulting in the business having to liquidate or go into debt to keep the business afloat. To avoid forced liquidation or having to go into debt to pay estate taxes, there are a number of lifetime gifting strategies that a business owner can implement to minimize (or possibly eliminate) estate taxes.
  10. Whether the management of the business rests in the hands of the next generation, in the hands of key employees, or a combination of both, the business owner must learn to delegate and work on the business. It can take many years to train a successor management team so that the business owner can step away from day-to-day operations. For many business owners, giving up that kind of control can be difficult.
  12. All too often, business owners focus more on the ownership and transfer tax issues involved in succession planning and ignore the people issues. In a typical family business, the future leader is likely to be one of the children of the business owner. If so, steps should be taken to ensure that the future leader has the support of key employees and other family member owners. In general, handing over roles and responsibilities gradually gives the successor time to grow into their new position and allows the business owner some time to adjust to their declining role. So delivery time is important for a smooth transition.
  14. Many family businesses depend on one or two key employees who are critical to the success of the business. These key employees are often needed to run the business (or help run the business) during a transition period. Therefore, a succession plan must include methods to ensure that key employees remain with the business after the death, disability or retirement of the business owner. Commonly used techniques used to ensure that key employees remain with the business during a transition period include employment contracts, non-qualified deferred compensation agreements, stock option plans and change-of-control agreement.
  15. For family business owners with children who are active in the business, treating all children equally in the succession process is often a major concern. Other business owner concerns include when to relinquish control of the business and how to guarantee sufficient retirement income. For example, selling (as opposed to donating) a business to active children results in equal treatment of all children and provides a retirement income for the business owner. Business owners who are not dependent on the business at retirement can gift the business to active children and leave non-business assets to inactive children. If, as a result, inactive children do not receive an equal (or fair) share of the business owner's assets, make up the difference by establishing an irrevocable life insurance trust for their benefit.
  17. Concurrent with the donation and/or sale of the business interests, the new owners should enter into a purchase and sale agreement. A purchase and sale agreement is a legal arrangement ensuring the redistribution of shares of a business upon the death, disability, retirement or termination of employment (trigger event) of one of the owners. The purchase and sale agreement would also set out the purchase price formula and payment terms in the event a trigger event occurs. If properly drafted and drafted, the sale and purchase agreement will create a market for the departing owner for what would otherwise be a non-tradable interest in a closely held business; will allow the original owners to retain control of the business by preventing shares from passing to the heirs of the outgoing owner; and determines the value of the deceased owner's stock for estate tax purposes.
  18. In addition to the annual gift tax exemption of $13,000, business owners can make lifetime gifts of $1 million ($2 million for married couples). A gift tax exemption reduces inheritance tax exemption (dollar to dollar) on death, but such a gift removes the income and future valuation of the gifted property from the business owner's estate. Unlike estate tax exemptions, gift tax exemptions remain pegged at her $1 million level.
  20. An employer may gift company stock directly, but should consider placing the gift in trust. One of the benefits of gifting in trusts for the benefit of active children is protection from predators, including disability, disability, creditors, and divorced spouses. Another advantage of gifting a trust is that upon the child's death, the trust's assets can be passed (within certain limits) to the business owner's grandchildren (and even more distant descendants, depending on state law) without inheritance tax. ). These are sometimes called generation skips or dynastic trusts.
  22. For business owners with very high net worth, there are sophisticated gifting strategies that can be used with little or no gift tax. There are also legal benefits, including Section 303 of the Internal Revenue Code, that allow tax-exempt use of related parties' cash to pay estate taxes for deceased shareholders. IRC Section 6166 allows business owners to pay inheritance tax in installments.
  24. Life insurance plays an important role in the succession of a company. For example, some business owners pass all or most of their business interests to one or more children until their death. If a business owner has taxable property, life insurance can provide the children who receive the business with the money they need to pay inheritance taxes. As previously mentioned, life insurance can be used by business owners to treat children who are not involved in the business fairly. Finally, life insurance is a popular way for a business or surviving owner to provide the funds needed to purchase the shares of a deceased owner under the terms of a sales contract. In many cases, the cash surrender value of a life insurance policy can also be used tax-free to pay for a lifetime purchase of the business owner's stock (by borrowing the excess back to base).
  25. Executive Summary
  27. Succession planning is critical to ensuring the viability of the family business. An effectively devised succession plan ensures a smooth transition of management and ownership with minimal transfer taxes. Given the number and complexity of succession options available, effective succession planning requires time, the support of outside advisors, family input, and dealing with interpersonal conflicts that may arise during the planning process. you need a willingness to do it. A completed succession plan provides security for business owners and key employees, personal well-being for families, and new opportunities for the business itself. This material is based on general tax law and is for informational purposes only. It should not be considered legal or tax advice and taxpayers should contact their own legal and tax advisors regarding their particular circumstances.

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