With everything that goes into operating a successful business, it may be hard to make time to think about what happens to it when you are no longer running it. Business succession planning is essential for ensuring the business will provide for you and possibly your heirs in the future. Your company is likely a significant part of your personal retirement plan, so planning how you will handle the transition is key.
Developing a business succession plan involves making numerous decisions at many points in the life cycle of the business. With so many potential paths, the process can feel overwhelming. The choices you make will shape your plan significantly, but it's crucial to find the option that best aligns with your specific needs and long-term goals.
As you contemplate the steps for what will happen to your business, you need to think about timing, how to prepare your business to get the most value, what you need from it, who is going to take over and a multitude of other matters. We are providing some thoughts on how to structure the transfer.
Selling your business
If you decide to sell your business, an important consideration is timing. Selling before you retire is an option; at the time of your retirement, upon your passing or at any point in between are also options. With a sale of the business during your lifetime, you may reduce future estate taxes. You may have to pay capital gains tax on the sale if you do it during your lifetime, however.
Buy-Sell Agreements
If you have business partners, a buy-sell agreement is an important consideration and may resolve some of the potential pain points involved in the sale. This agreement is a contract that outlines how an owner's share of the company will be transferred or sold if that owner passes away, becomes incapacitated or simply decides to leave the business. The agreement typically outlines how the shares would be valued and provides the other owners with the right of first refusal.
A buy-sell agreement also allows for a smooth transition in what could potentially be a stressful situation in the event of an unexpected death or health event. One way to support the terms of the agreement is by purchasing life insurance: the death benefit can be used to buy out the shares of the partner who has died.
Self-Canceling Installment Note
A Self-Canceling Installment Note (SCIN) is a promissory note that allows a seller to transfer ownership in exchange for an interest-bearing note. The note provides you with a steady stream of income in retirement and allows the purchaser (typically heirs or a trust for their benefit) to buy the business over time. The promissory note states that the buyer must make a series of payments to the seller over time which cannot exceed your actuarial life expectancy. The self-canceling feature means the buyer’s outstanding payment obligation under the terms of the note are cancelled immediately upon the death of the seller. If set up properly, a SCIN transfers assets out of your estate, and you avoid having to pay gift taxes.
Gifting your business
If you’d like to pass your business down to a family member, you can consider gifting part or all your business without requiring any payment. While you can leave your business to heirs via your will, transferring ownership during your lifetime may offer additional personal and tax benefits. By gradually gifting the business, you can ease your children into leadership as they become more capable of managing it, all while reducing potential gift and estate tax liabilities. You will need to consider how you are going to stage the gifts in addition to dealing with the loss of income as you reduce your share of the net profits.
Gifting or selling to a Family Limited Partnership
You can transfer your interest in the company to a Family Limited Partnership (FLP) as a way to bring other family members into the business and slowly let them take over control, while you maintain an interest. By staying on as a partner/owner, you can continue to receive income while the other partners run the business and take on more responsibilities. A FLP has many tax benefits. If you transfer the business into an FLP you may be able to reduce your tax liabilities significantly. Your business may also be eligible for valuation discounts from the IRS. The income of the business can be shifted to limited partners by distributing profits to those who may be in lower tax brackets. Once the business is transferred into the FLP, any future growth of the business is not included in your estate.
Why is business succession planning important?
There are many options for you to consider when planning for your retirement from a business you own. The decisions you make will help mold your retirement and the future success of the business. It is important for all parties involved to know the future of the business. No matter which approach you select, having a strong succession plan can provide stability for future family and business partners, and can help you sleep at night knowing what the future holds.
NOTE: The intersection of estate planning and business succession planning is complex. Be sure to engage a law firm with attorneys who specialize in both areas.
Busey Wealth Management’s experienced team is here to help you create a successful retirement roadmap. To learn more about our services or to find an advisor near you, visit busey.com/wealth-management.
This is not intended to provide legal, tax or accounting advice. Any statement contained in this communication concerning U.S. tax matters is not intended or written to be used, and cannot be used, for the purpose of avoiding penalties imposed on the relevant taxpayer. Clients should obtain their own independent tax advice based on their particular circumstances.
This material is provided for educational purposes only and should not be construed as investment advice or an offer or solicitation to buy or sell securities.
This presentation is for general information purposes only. It does not take into account the particular investment objectives, restrictions, tax and financial situation or other needs of any specific client.