Transferring Your Family Business
As a business owner you are going to have to decide when will be the right time to step out of your business or family business and how you will do it. There are many estate planning tools that we can use to help you transfer your business. Selecting the right tool depends on whether you plan to retire from the business or keep it until you die or become incapacitated.
If you have children or other family members who you would like to pass the business onto after your death you will want to transfer your business to them at its full value. However with income, gift and potential estate taxes it takes careful advance planning in order to prevent some or all of the business assets from being sold to pay for this. Business succession planning must include ways not only to ensure that your business continues but that it does so with the smallest possible tax consequences.
Some of the more common business succession strategies are discussed below however none of them are without certain drawbacks and all should be discussed thoroughly with a tax professional as well as with your estate planning and business attorney.
Gift Tax
You and your estate may get some relief under the Internal Revenue Code. If you are prepared to begin transferring some of your business interest to your beneficiaries, a systematic gifting program can help accomplish this while minimizing the gift tax liability that might otherwise be incurred. This is done by utilizing your ability to gift up to $14,000 per year per recipient without incurring gift tax.
By transferring portions of your business in this manner, over time you may manage to transfer a significant portion of your business free from gift tax.
Selling Your Business Interest Outright
When you sell your business interest to a family member or someone else, you receive cash (or assets you can convert to cash) that can be used to maintain your lifestyle or pay your estate taxes. You choose when to sell–now, at your retirement, at your death, or anytime in between. As long as the sale is for the full fair market value (FMV) of the business, it is not subject to gift tax or estate tax. But if the sale occurs before your death, it may be subject to capital gains tax.
Transferring Your Business Interest With a Buy-Sell Agreement
A buy-sell agreement is a legal contract that prearranges the sale of your business interest between you and a willing buyer. A buy-sell agreement lets you keep control of your interest until the occurrence of an event that the agreement specifies, such as your retirement, disability, or death. Other events like divorce can also be included as triggering events under a buy-sell agreement. When the triggering event occurs, the buyer is obligated to buy your interest from you or your estate at the FMV (fair market value). The buyer can be a person, a group (such as co-owners), or the business itself. Price and sale terms are prearranged, which eliminates the need for a fire sale if you become ill or when you die. Remember, you are bound under a buy-sell agreement: You can’t sell or give your business to anyone except the buyer named in the agreement without the buyer’s consent. This could restrict your ability to reduce the size of your estate through lifetime gifts of your business interest, unless you carefully coordinate your estate planning goals with the terms of your buy-sell agreement.
Grantor Retained Annuity Trusts Or Grantor Retained Unitrusts
A more sophisticated business succession tool is a grantor retained annuity trust (GRAT) or a grantor retained unitrust (GRUT). GRAT/GRUTs are irrevocable trusts to which you transfer appreciating assets while retaining an income payment for a set period of time. At either the end of the payment period or your death, the assets in the trust pass to the other trust beneficiaries (the remainder beneficiaries). The value of the retained income is subtracted from the value of the property transferred to the trust (i.e., a share of the business), so if you live beyond the specified income period, the business may be ultimately transferred to the next generation at a reduced value for estate tax or gift tax purposes.
Private Annuities
A private annuity is the sale of property in exchange for a promise to make payments to you for the rest of your life. Here, you transfer complete ownership of the business to family member or another party (the buyer). The buyer in turn makes a promise to make periodic payments to you for the rest of your life (a single life annuity) or for your life and the life of a second person (a joint and survivor annuity). A joint and survivor annuity provides payments until the death of the last survivor; that is, payments continue as long as either the husband or wife is still alive. Again, because a private annuity is a sale and not a gift it allows you to remove assets from your estate without incurring gift tax or estate tax. Be sure to talk to a tax professional.
Self-Canceling Installment Notes
A self-canceling installment note (SCIN) allows you to transfer the business to the buyer in exchange for a promissory note. The buyer must make a series of payments to you under that note. A provision in the note states that at your death, the remaining payments will be canceled. SCINs provide for a lifetime income stream and avoidance of gift tax and estate tax similar to private annuities. Unlike private annuities, SCINs give you a security interest in the transferred business.
Family Limited Partnerships
A family limited partnership can also assist in transferring your business interest to family members. First, you establish a partnership with both general and limited partnership interests. Then, you transfer the business to this partnership. You retain the general partnership interest for yourself, allowing you to maintain control over the day-to-day operation of the business. Over time, you gift the limited partnership interest to family members. The value of the gifts may be eligible for valuation discounts as a minority interest and for lack of marketability. If so, you may successfully transfer much of your business to your heirs at significant transfer tax savings.
Experienced Business Succession Estate Planning Attorney
Again all of these have their advantages and disadvantages and IRS rules and laws change all the time. Be sure to consult your attorney and tax professional before embarking on any of these for business succession planning.
We are experienced Sacramento Estate Planning Attorneys. We have helped hundreds of individuals and families plan for the inevitable through estate planning techniques including the preparation of revocable and irrevocable living trusts, spendthrift trusts, special needs trusts, wills, powers of attorney for medical and business, living wills, medical directives, and guardianship provisions for minor children.
We are also experienced Sacramento probate and Sacramento trust administration attorneys and understand the difficulties of settling estates once your loved one has passed. Our estate planning attorneys are experienced and caring and will walk you through how to make and express some of the difficult decisions you need to make. You will have a great sense of relief and satisfaction once your estate planning documents have been finalized. Our Sacramento estate planning attorneys can guide you with great legal advice and the strategy needed to get you the results you want. Contact us today to schedule your complimentary attorney consultation by clicking HERE or by calling 916-999-1376. We look forward to helping you with all of your Sacramento estate planning needs.
