You have probably purchased business insurance to protect your business from a variety of threats, such as theft or a natural disaster; however, is your business protected from the impact of your death or incapacity? If not, it needs to be because if something happens to you, all of the time and money you have dedicated to your business could be lost in the blink of an eye. Business succession planning ensures that your financial interest in your business is protected in the event of your death, incapacity, or even retirement.
The succession plan you create should be as unique as the business itself; however, there are some common questions and concerns that most business owners try to address when creating a plan, including:
- If you are incapacitated tomorrow because of a catastrophic accident or debilitating illness, who will take over the immediate day to day control of your business?
- Is it clear to your employees, business associates, and family who will take over in your absence and will they accept that person as their leader?
- Does the individual designated to take over have the legal authority to do so?
- Will your family continue to benefit financially from the success of the business during your incapacity
- If you become permanently disabled, or retire, who will take over your business?
- Will your business be included in the probate of your estate?
- If your business will be part of your estate, what will happen to the value of your interest in the business if it is sold and how will the value of your interest be determined?
- If your business is a family owned business have you prepared the next generation to take over?
- Have you set up the proper legal structure for the business to facilitate the transfer to the next generation?
- What will the tax implications be for your business should you die?
- Does the business have sufficient liquid assets to cover any tax debt that might be owed when you die?
As the owner of a small business, planning for the possibility of your own incapacity is every bit as important as planning for the possibility of your death. A small business cannot function for long without someone at the helm – and that person must have the proper legal authority to operate the business. Imagine if you were injured in an accident tomorrow and became incapacitated. Without an incapacity plan in place, no one would have the legal authority to negotiate contracts for the purchase of supplies nor for the sale of products. Banks, suppliers, customers, government agencies would all be unwilling to continue working with your business without plans in place that contemplate just such a scenario.
One of the most important considerations in a small business is management continuity. Who will take over the day to day management of your business in your absence? Never assume that an adult child or senior employee is willing and able to do so. Even if they are, does he/she have the legal authority and practical capacity to step into your shoes? If not, the business could falter rapidly. Both customers and suppliers can become reluctant to do business with an operation when they are unsure who is running the show. You need a designated successor who is ready and able to step up and take over as smoothly as possible should the need arise.
If your plan is to pass the business down to the next generation you should start the process far enough ahead of time for your business to make a successful transition. When the plan is to pass a business on to future generations, you must not only plan for the legal transfer of ownership but also for the practical running of the business. The legal transfer of ownership can be accomplished fairly quickly; however, teaching the next generation how to run the business takes time. Moreover, there are tax advantages to transferring your legal ownership to the next generation slowly instead of all at once after you are gone.
Among the numerous options available that can facilitate the transfer of ownership of your business from one generation to the next, one of the more popular of those methods is through the creation of a Family Limited Partnership (FLP). An FLP allows you to transfer your legal interest in the business to the next generation slowly, over time, while maintaining control over the day to day management of the operation until such time as you are ready to retire. In addition, you may be able to gain tax advantages by using an FLP to transfer interest in your business to future generations.
If you do not plan to pass down your business to the next generation, it is vital to consider what will happen to your business if something happens to you. One option is to enter into a Buy-Sell agreement. A Buy-Sell agreement guarantees that you (or your loved ones) will receive the fair market value of your interest in the business in the event you, or your surviving loved ones, must sell it at a later date. In essence, a Buy-Sell agreement is a binding agreement between you and someone who agrees to purchase your interest in the business in the future for a pre-determined price or using a fixed method of determining the fair market value at the time of the sale.
Most small businesses need to be concerned about the issue of liquidity; however, if your business is a farm or ranch you should play particular attention to this issue. Small to medium size farms and ranches are notoriously short on liquid assets because the value of the farm or ranch is usually tied up in land, equipment, livestock, and other non-liquid assets. Federal gift and estate taxes, however, are calculated based on the total value of your estate assets, without regard to whether those assets are liquid or non-liquid assets. If your estate lacks sufficient liquid assets to pay any gift and estate taxes due, your estate Executor will have to sell estate assets to pay off the debt. Those assets, however, could be critical to the continued operation of the business.
Typically, a small business owner has invested a considerable amount of time and resources into getting the business off the ground and turning a profit. If that applies to you, protecting your business through the inclusion of a business succession planning component should be an integral part of your estate plan. If you are unfamiliar with the concept, the Northern California Center for Estate Planning & Elder Law has created some frequently asked questions and questions related to business succession planning to help get you started. If you have specific questions about succession planning for your business please contact our office to schedule a consultation.
If you have specific questions regarding the best way to incorporate business succession planning into your estate plan, contact us at Northern California Center for Estate Planning & Elder Law by calling (916)-437-3500 to schedule your appointment today.