Ready to retire? Featured

8:00pm EDT October 26, 2008

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 has cultivated.

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 business.

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 complicated technique.

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 owner’s estate.

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