By: Randall A. Denha, Esq.
One would think that business succession planning should be a priority for everyone in business. Everybody in business has thoughts of retiring one day. However, if you own a family business, retirement is more than simply not going to the office. There are other pressing concerns that need to be considered such as the following: Who’s going to manage the business when you no longer work the business? How will ownership be transferred? Will your business even carry on or will you sell it? Will the business be sold or transferred to family? If you own your own business, you need to determine what will happen to it after you stop working.
For a small business owner, business succession planning is an essential component of his or her life and estate planning. A comprehensive business succession plan can ensure your business will continue for generations. Without proper planning there can be numerous unintended and unpleasant consequences. Business succession planning seeks to manage these issues, setting up a smooth transition between you and the future owners of your business. With family businesses, succession planning can be especially complicated because of the relationships and emotions involved – and because most people are not that comfortable discussing topics such as aging, death, and their financial affairs.
Succession planning may seem complicated at first, but it can be broken down into three main issues: management, ownership and taxes. You may need to address ownership and management separately. It’s important to realize that management and ownership are not the same thing. For example, you may wish to transfer management to one child yet transfer ownership to all children, whether they are actively involved in the business or not. Say, for instance, you have three children who want an ownership interest in the company, but only one who wants to manage the company. Identifying who will succeed you in making key business decisions will help sort out possible family conflicts.
Taxes are also an important issue: Improper planning can leave successors with burdensome estate tax bills. One way to minimize this tax burden is to freeze your own interest in business assets when you transfer the company. If the business will be passed to family, gift the company’s ownership or stock to heirs over time. Remember, the IRS looks for a “bona fide business arrangement” for any transfer of ownership, so adhere to formalities like having an expert determine the company’s value and drawing up a formal agreement. This business valuation component involves hiring a certified valuation expert who will provide the report which accompanies a gift tax return (Form 709) filed with the Internal Revenue Service. Once filed, the Internal Revenue Service has three (3) years to challenge the valuation.
While every business is different, there are some things that all businesses should consider in their succession planning. First, you should start now. The longer the plan is in place, the smoother the transition. Businesses should start planning years in advance, or even include a succession plan in the original business plan.
Second, family often plays a large role in succession planning. If you are plann¬ing on involving family, you should start an open dialogue and outline the role of family members. Doing this may prevent future disagreements regarding compensation, ownership or control of the business.
Third, it is important to know your successors. Examine the strengths and weaknesses of possible successors to ensure that whomever you choose is capable of taking on the responsibility you give them. Once successors are determined, it is important to train them for at least a year so they are familiar with the role you envision for them.
For the legacy of your business to last for generations, your business must be passed on properly. By planning ahead and creating a succession plan, you can provide for a smooth transition and establish your business’ legacy.