Business ownership succession planning means different things to different business owners.
Succession generally involves the transfer of ownership to family members, to employees or to third parties. But, it also involves identifying and balancing the emotional and financial needs of the owner, the owner’s family and key executives with the needs of the business itself. It means developing a plan that satisfies everyone’s needs to the greatest degree possible.
When conducting business ownership succession planning, there are two key aspects the business owner must address, says Tom Venker, chair of the Business and Tax Department at The Stolar Partnership LLP.
“First, the plan must allow the business owner to exit the business at retirement, death or disability according to his or her plans,” he says. “Second, it must provide a means for the business to continue and prosper after the owner’s departure.”
Smart Business spoke with Venker about how to establish goals for a succession plan, the importance of addressing the issue now and not when you have an immediate need, and why you cannot just create a plan and put it on a shelf.
What elements should a succession plan include?
Depending on the needs and goals of the individuals involved and the complexity of the business, business ownership succession planning can be as simple as developing a plan to give voting and nonvoting ownership interests to family members. At the other end of the spectrum, it can be very complex, involving the business’s attorneys, accountants, appraisers, bankers, insurance agents, business brokers and psychologists, and resulting in various legal documents such as shareholders agreements, employment agreements and deferred compensation agreements.
Planning also involves identifying potential roadblocks, such as an inability to find capable management talent among the new owners, pay for new outside management, provide adequate cash to the departing owner, or split the business among family members.
What types of goals should business owners set when creating a succession plan?
Business ownership planning begins with the business owner setting goals. Personal goals may include retiring versus working for life, financial security in retirement, support of a spouse after the owner’s death, provisions for family members not in the business, a buildup of assets outside the business, preservation of the family business for family members who are in the business, purchasing the interests of other owners, establishing charitable goals and facilitating a family member taking over the business.
There are also business goals, including enhancing management capabilities, building financial capacity to implement the succession plan and establishing the business’s future growth goals.
What is the most common mistake that business owners make when it comes to succession planning?
The most common mistake that business owners make regarding succession planning is ignoring it altogether. Too often, business owners think they will control their businesses forever, and, because it can be a difficult topic to address, they defer the planning.
When tackling the planning process, it helps to have all of the advisers at the table, such as accountants, life insurance agents, investment advisers and attorneys. These advisers have the interests of the business owner at heart and can help the business owner understand the benefits of putting a plan in place.
The key is to get a plan started and then modify it over time.
Baby boomer business owners should take particular note and start business succession planning now if they do not yet have a plan in place. As boomers begin to reach retirement age, sales of businesses will likely pick up, which could, in turn, drive down business valuations. Baby boomers whose plan includes selling the business will want to monitor the business sale market to detect any potential downturns.
What estate tax considerations should be taken into account with multigenerational businesses?
If the business is going to be transferred down through the family, business owners need to focus on how to provide liquidity for estate taxes. If the business is going to be retained in the family, owners can use some estate tax deferral rules that are available under the Internal Revenue Code. Other times, if the business has enough cash, stock may be redeemed. Sometimes business owners must rely on life insurance to help provide liquidity. Another option is to sell some of the interests to employees or a third party to provide liquidity.
How often should a succession plan be reviewed or updated?
A plan should be reviewed every three years and updated as circumstances change — when there are changes within the business owner’s family, changes of employees in the company, or changes in the growth of the company.
With any major change, the plan should be reviewed and perhaps updated.
Recently, there have been some succession plans that were contingent upon new owners buying out the departing owner. They assumed that bank financing would be readily available. In today’s banking environment, however, loans are more difficult to secure, so some plans have had to be tweaked to provide flexibility on the financing side.
Tom Venker is chair of the Business and Tax Department at The Stolar Partnership LLP. Reach him at firstname.lastname@example.org or (314) 641-5151.