In addition to estate planning, business owners must also think about succession planning. Business succession planning is the process of preparing to hand over control of the business to another (or several others) in a way that is least disruptive to the business’s continued operations and value. Like estate planning, succession planning is not a matter of “if” but rather a matter of “when.” No one likes to contemplate death or incapacitation. However, succession planning is important to preserving your business and your estate’s value. Both allow your family members and/or business partners to focus on what is truly important with minimal business interruption.
Succession plans can be temporary (for those who need to take a year or two off because of a serious medical problem) or permanent (upon death or a permanent departure from the business). Key considerations are below.
What is your business worth?
A business valuation will help you determine your business’s worth. There are several methods to determining the value of a business and often people choose to get an accountant involved when determining which method to use.
How will management of the business continue?
When the sole owner of business dies, the “life” of the business continues on. In the absence of a power of attorney, corporate document, or will indicating who will “continue on the life of the business,” a conservatory or guardian would need to be appointed to act on behalf of the incapacitated or deceased owner. Until the probate court approves the creation of estate and appoints an executor for the business, which can take up to several weeks, the management and day to day operations of the business could be suspended. Some ways to get around this could include the above succession planning, using a trust, and/or appointing a key person to take over the management or operations of the business.
Management of a business should not be confused with ownership in the business. Who is willing to take over the day to day operations and perform the countless tasks which keep the business afloat? It is not about who will become the owner of the shares or assets. When considering how to delegate management of the business, it is important not to delegate critical tasks exclusively in one person. Sometimes redundancy is desirable. For example, when only person has check-signing authority, and he/she is unavailable, the business is stuck without a person who can sign checks or possibly pay payroll. It is also beneficial to choose a key employee or other experienced person who has had training or a background in the business or industry.
How will the ownership in the business be transferred?
A key tool used when selling or giving away ownership in a business is a buy-sell agreement. A simple way to look at a buy-sell agreement is to view it as your business will; it will govern what happens if a partner in the business dies, is forced to leave the business, or chooses to leave the business. Like a will, the buy-sell agreement does not come into play until one of the events triggered under it occurs, i.e., the business owner becomes disabled, chooses to leave, or dies.
How will the transfer be funded?
As important as determining how the ownership will transfer it is planning how the transfer will be funded. What funds will be used to buy out the value of the ownership being transferred or bought? In the event of a death, what about estate taxes? Often people use life insurance or disability insurance policies.
Planning of estate taxes is one of the most critical elements to succession planning. Failure to plan for estate and inheritance taxes can lead to the “death” of a family business. It is very common for the bulk of a business’ worth to be in assets that can’t easily be turned into cash, i.e. real estate, equipment, machinery, or other tangible items. With little access to cash, you may have to sell some property to make the cash available.
Determining the best course of business planning often involves professional guidance. You should contact your attorney to discuss what business planning is required to meet your needs.