Family-owned businesses face a window of opportunity

Tim McDaniel, CPA/ABV, ASA, CBA, Rea & Associates, Inc.

How many times have you received a 500 percent increase on a tax exemption? The federal gift tax exemption did just that — going from $1 million to $5 million for an individual and from $2 million to $10 million for couples — but only for 2011 and 2012.

As a result, you have a unique opportunity to make a monetary gift or interest in your business over the next 20 months that could be tax-free now and shielded from future appreciation from taxes.

Taking advantage of this window of opportunity may require you to think about some thorny issues that you’ve been putting off — including establishing or finalizing the succession plan for your business, and your retirement and estate plan. It’s important to keep in mind that you can develop a succession or retirement plan without putting it fully into action. And it’s far better to have a plan in place that allows you and your family to take advantage of a more generous tax code while it lasts, than to have no plan in place and miss the opportunity to transfer more of your wealth now.

Taking the First Step

The first step in this process will be determining what you plan to do with your business. Has it always been your plan to gift your business to your family? Have you discussed it with them? Do they share your interest in continuing the business?  Will they be have the skills and knowledge to lead it, if not soon, in future years? You’ll also want to address how you can treat other family members who are not in the business equally and fairly in your estate and succession plan.

If you plan to transition your business to family members eventually, consider gifting at least a portion of stock now, while the gift tax ceiling is low and the value is depressed due to the recession, even if you aren’t ready to actually complete the transition. You can maintain control of the business by issuing non-voting stock or retaining a majority of shares in your company. Use this time to mentor family members so that they learn the skills they will need to successfully take over the business when the time comes.

When You’re Not Sure

If you are unsure whether you will transition your business to the next generation, it may still make sense to gift a portion of stock to your family now while the gift tax limits are more favorable. If you do eventually sell your business, your family will still benefit from the sale of their shares in the company.

If You Plan to Sell

When you are certain that you will eventually sell your business, you may still wish to gift a portion of stock in the business to family members. As noted above, your family would benefit from the eventual sale of their shares. Knowing that you plan to sell your business also sets up a different set of goals to grow its value. You’ll make management decisions that help you grow your biggest investment over time, just as you would grow the funds in your stock portfolio.

Knowing Your Business Value

No matter which path you choose regarding the future of your business, the most important step when preparing for gifting is determining the value of your business. It is easy for a business owner to develop an idea of what they think their business is worth. However a valuation that reviews financial statements and comparable businesses can result in a realistic, but totally different, number. You don’t want to be blindsided by unrealistic expectations.

A business valuation can help you make management decisions that will enhance the value of your business before and during the transition process. This “investor’s mindset” can help you identify potential risks and minimize them, look for sustainable growth in your product or service lines and keep a close eye on cash flow. Certainly the earlier and more frequently you conduct a valuation of your business, the better informed you’ll be when making management decisions that will impact your company’s value.

Ensuring Your Retirement

Along with determining what will happen to your business in the future, you’ll need to consider your retirement needs. Is your current nest egg enough to sustain you in retirement? You may have time to adjust your current company pension plan to help you better prepare for retirement. For example, you might consider a profit-sharing, defined-benefit plan or even staying on at your company as a consultant or salaried employee after the transition. Your financial advisor can assist you in developing ways to meet your retirement as well as your business goals.

Now is the Time

No matter which path you choose to take with your business, you’ll never have a better opportunity to transition wealth to your family that you have during 2011 and 2012. Because sorting through your professional and retirement goals takes time, begin by setting aside planning time to begin the process. Then you’ll be able to present your gifts to take advantage of today’s generous gift tax limits.

Tim McDaniel, CPA/ABV, ASA, CBA, is a principal with Rea & Associates, Inc., a regional accounting and business consulting firm. He specializes in business valuation and succession planning and also consults with family businesses regarding family integration and succession planning. He can be reached at (614) 889-8725 or [email protected]