Keeping Your Pennsylvania Business in the Family - Business Succession

What will happen to your business when you die? This is an issue that many small business owners do not like to think about--they assume they will just figure it out "someday." The problem is that "someday" may never come and a small business owner’s untimely death may be devastating to the business. If what happens to your business after you die is not clearly defined, you will be decreasing the value of your business simply because it is going to cost money for attorneys, accountants, and others to get involved to work things out. In addition, unplanned transfers can lead to management and ownership disputes and cash-flow crises that can cripple a company’s ability to operate. Unless you have made a workable plan for the transfer of the business during your lifetime, it is possible that your executor or other estate representative will not be able to do anything other than liquidate it - perhaps on unfavorable terms.

Many small businesses are a key component in the family’s wealth, and their owners usually have a strong desire to keep the business "in the family." To achieve this goal, the owner must deal with business, family, tax, and estate issues when planning for the succession of both management and ownership.

Much of our economy today is made up of small, family-owned businesses. The sad fact is that only a small percentage survive into the second generation. The successful transfer of the business to the next generation is up to the owner, and the goal can be achieved through careful planning. The first step in creating a succession plan for your business is to decide what you want for the future of your business. The following six questions will help you make decisions regarding your succession plan:

(1) Do you want to keep the business in the family or allow it to be sold?

(2) Which family members have the interest and capability to participate in the business?

(3) How will you provide for children or other family members who will participate in the family business?

(4) If you plan to keep the business in the family, who will manage it?

(5) Will you use your business to fund your retirement?

(6) If you decide to keep the business in the family, how will you shield it from the potentially crippling effects of estate and inheritance taxes?

Once you have answered these basic questions, you are ready to create the business succession plan.

If your desire is to preserve your personal wealth and pass both your business and the wealth on to your heirs, two elements must be considered and planned carefully: the transfer of management responsibilities, and the transfer of assets.

Transfer of Management

Selecting a successor is often a decision by default. Most family businesses will have one member of the next generation who is more active, qualified, and interested in the business than his or her siblings. Frequently, the owner has already likely spent a great deal of time grooming the successor or the successor has soaked up much of the necessary knowledge on his or her own over the years. The challenges in this scenario come in the form of finding ways to assure equitable treatment for the non-participating family members, be they spouse or siblings.

If there is competition between your children for the position, a decision to divide the power between them is not likely to be successful. Ownership may be divided but management should be clearly delineated. Often ownership can be split into passive and active shares, giving the active successor the necessary control over the business, but providing an equal economic benefit to the inactive shareholders. In some cases the business can be divided along functional lines, so that different family members can assume control over well-defined functions or business units.

The transfer of power of a family business can take place over a period of months or even years, depending on the needs and wishes of the family members and the business itself. As the successor gains confidence and credibility in day-to-day operations and dealings with outsiders, the owner can back away into an advisory role. A transition plan or timetable should be roughed out initially to assure continuity of management, and should be reevaluated periodically to see if goals are being achieved. The transfer of power can be a breeze if there is good communication and careful planning.

Transfer of Assets

Once the decision has been made as to who will be in control of the business, the owner must decide how to transfer the wealth of the business. This may be the same person(s) who assumes the power, or it may be a different or larger group. Regardless, the owner has the power to decide who gets what and when.

The goal is to accomplish the transfer successfully without suffering crippling tax consequences. If you are fortunate enough to accumulate significant assets during your life, estate taxes can sometimes make it expensive to pass a business from one generation to another. Without proper planning, family businesses can be financially destroyed by the estate tax and simply close or sell assets to pay the debt. There are many ways to reduce the estate tax bill and keep your business assets out of the hands of the government - working closely with an accountant and estate planning attorney is key. Some of the commonly used strategies for minimizing tax consequences when transferring assets are as follows:

(1) some combination of life insurance;

(2) trust accounts to help structure assets to minimize potential estate taxes;

(3) provisions for one heir to borrow against the value of the business to pay for control of the entire business; and/or

(4) a system of regular gifts to reduce the overall value of your estate.

A solid estate plan will allows a business owner to transfer the business assets to his or her heirs with minimum disruption, time, and expense.

One of the main reasons so few family businesses survive into the second generation is that their owners fail to adequately plan for the succession. Many owners simply wait too long to do business succession planning, so the business must be liquidated to pay estate taxes, which are generally due nine months after death. Without a business succession plan, the executor and heirs of the deceased owner may be forced into a sale of the business at an undesirable price because the heirs are unlikely to know the value of the business.

Properly planning for the transfer of your business to your heirs is as important as writing a Will. It involves difficult choices and requires a considerable amount of time. The planning process forces you to iron out how ownership will change hands and how to pay for the transfer in the event of your death. Putting this information on paper gives you the confidence of knowing you will not be leaving your business partners or family in a bind when you die. Several months of careful planning will translate into peace of mind, knowing that your family business has a good chance of surviving into the next generation. It will also give your heirs a clear picture of what their roles will be. Communicate with your legal and tax advisors, make your decisions, put your plan into action and communicate your wishes to everyone involved. You should also periodically review your plan and make updates when necessary. Once you have devoted the time and attention which your business succession requires, you will be able to enjoy the peace of mind that comes from sound planning and problem-free execution.

For a more thorough assessment of how to protect the value of your business for your family, make an appointment today to consult with an attorney from Wolf, Baldwin & Associates, P.C.. We look forward to hearing from you.

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