How to put Success in Business Succession Planning

by B. John Readey, III

When we advise our clients about estate planning in general we tell them: Remember, there will be a plan in place upon your death that leaves your business to your family. It has been drafted by your state legislature.

Perhaps you have an estate plan in place, but does it thoughtfully address a business succession plan?

Or, you may be a business owner who is convinced he or she will live forever, so you have no plan. In either case, your family will be left have to sort it out. What they can’t sort out, the law will. Tax collectors will be more than happy to help. If a family business is in-volved, the litigators in my profession will look forward to the prospect of an expensive family squabble.

There are at least two planning issues common to family and non-family businesses: control and value. How can you effectively and efficiently transfer control of the business during your lifetime or upon your death? How can you transfer value in a tax-efficient manner to family members during your lifetime so that post-transfer appreciation is out of your estate? For the family business, how can you equalize value among family members where control will be held by some family members but not by others?

Deciding which family member(s) should have control is the most difficult issue to confront and resolve. Fortunately, there are consultants available, locally and nationally, who can very effectively assist families over a period of time in working through their disparate feelings, including sibling rivalries and perceived parental preferences, to achieve a consensus business succession plan. Generally, this is money well spent.

Where a family is not involved, the control decision may be much simpler. It could be as straightforward as providing for a sale of the entire business to management, perhaps funded in part by life insurance if the purchase is to occur upon death. If the intent is to sell the business, there must be management in place as well as a decision-making apparatus to determine when, whether and how to sell. In that context, one or more advisors should be designated in your plan, either as Trustees or Protectors, to address those issues on behalf of your family. An ESOP may be an option, depending upon the circumstances of your business.

In many cases, the first step in transferring or equalizing value is a recapitalization. Typically, the shares or LLC interests held by the business owner are voting shares or interests. By recapitalizing, each voting share/interest may receive anywhere from 10 to 1,000 voting shares/interests. The advantages to such a recapitalization are substantial—reducing the percentage of outstanding stock representing control, thereby making the transfer of control more efficient and less expensive from a transfer tax point of view; and providing a pool of shares available for transfer to family members without diluting control. When the time is right, you, as the holder of the voting shares, could exchange your voting shares for the non-voting shares of the appropriate family member to transfer control of the business. If yours is not a family business, you would retain the voting shares while you build the value of your company for the holders of non-voting shares, presumably your children, or trusts for their benefit. This technique is available even for S Corporations.

There are a number of tools estate planners have available to reduce or eliminate the gift and estate tax impact of transferring value in the business from you to the next generation(s) or to deal with the potential liquidity problem which could arise in paying the Federal and possibly State Estate Taxes. The appropriateness of any one or more of these techniques will depend upon your age and health, the cash flow of the business, your goals and other factors. The bottom lime is that it may well be possible under current law to transfer substantial value and future appreciation to the next generation at a discount from pro rata value.

Business succession planning is a topic which should be on your agenda. If you have a plan in place, review it from time to time. If you do not, consider what would happen to your business and your family if something happened to you tomorrow. You would undoubtedly be happier if you knew that the tax collectors and litigators would face disappointment upon your demise.

 

B. John Readey, III is a Partner with Bryan Cave.
P | 816.391.7633
E | bjreadey@bryancave.com.com