After spending your entire life building your company from scratch,
it’s starting to feel like it’s time to retire and enjoy the fruits of your labor.
The company is in good financial shape,
the kids are grown and gone, and you’re
ready to enjoy life. But are you really
ready to retire?
“If a business owner is smart, he’s not
going to wait until the day he retires to
put the business up for sale,” says
William Jochens, practice manager of
trusts and estates for Greensfelder,
Hemker & Gale, P.C. “So he will plan for
the day he decides to either retire or sell
the business and get out.”
Smart Business spoke with Jochens
about the importance of having a good
succession plan in place well before
retirement is near.
How does a corporate succession plan factor
into a business owner’s decision to retire?
The business may be the chief asset
of the owner. Oftentimes, at retirement, the owner will be looking to get
money out of that asset that he or she
The first thing the owner must decide
is: Who are the natural succeeding owners? With a family-owned company, obviously the first group to be considered
would be family members. A second
option would be any co-owners of the
A third group would be a management
team. Maybe the owner noticed over the
course of the years a core group of management employees who might be capable of running the business. And finally,
the owner might want to move the business to a broad base of employees.
With respect to family members, often-times we will transfer the asset using
gifting techniques from very simple
gifts, such as outright stock gifts, to
more sophisticated types of transfers
using trusts and irrevocable-type documents. We’ll employ techniques to get
the best gift tax result, which will usually involve discounting the value of the
gift. Maybe the gift will be a small portion of the equity ownership of the company and we’ll argue that the stock does-n’t have a value proportionate to the
underlying assets of the company. We
discount the value of the stock or whatever business unit we’re transferring for
a ‘lack of marketability’ or a ‘lack of control’ factor, for example.
With respect to co-owners and management teams, we’ll often use buy-sell
agreements. If a co-owner wants to sell
his stock, at retirement or any other
time, he is required by the agreement to
sell his stock to the co-owners or management team for an agreed-upon price,
which can be paid over an agreed-upon
period of time (e.g. five years).
When a broader group of employees is
acquiring equity in the company, sometimes we’ll use an employee stock ownership plan (ESOP), a type of stock
bonus plan. This is a sophisticated and
What if the owner dies without a succession
plan in place?
Obviously, this is a nightmare. The first
issue is the estate tax. As of 2009, if an
owner dies with an estate more than $2 million in value, then potentially 45
percent of the estate is paid to the government in the form of estate taxes.
The business is often the largest asset
of a business owner’s estate and, typically, it is not a liquid estate. It is not unusual for the owner to own stock in the
company and not much else. Since businesses are not liquid assets, they can’t be
easily converted to cash. And that’s a
problem because estate taxes are due
nine months from the date of death.
So the issue is: how does the owner’s
estate come up with the money to pay
the estate taxes in a timely manner? The
tax code provides some relief, but the
terms are statutory and many times
undesirable to the estate, which often
won’t qualify for the relief anyway. So
the estate may need to ‘fire sale’ or mortgage the business within the nine-month
period in order to pay the estate tax.
These are undesirable results.
The business owner will need to plan
to find, or generate, liquidity in his or her
estate to pay the estate tax and preserve
the business. Buy-sell agreements are
used in these situations. As part of these
agreements, the company, or co-owners,
may carry life insurance on the owner’s
life to pay the owner’s estate for his or
her stock when he or she dies. The well-known technique of the irrevocable life
insurance trust (ILIT) is also often used
to provide liquidity for a business
Another issue is: who will control the
company after the owner dies? It’s a
huge issue because if the right people
aren’t in charge, the business could lose
key employees and value. So it is very
important to make sure all corporate
documents are properly set up so that
the right individuals will be in charge.
WILLIAM JOCHENS is the practice manager of trusts and estates for Greensfelder, Hemker & Gale, P.C. Reach him at (314) 516-2640
or [email protected].