The Planner's Perspective: Tackling Business Transitions

Paul Morrone |

By Paul Morrone CFP®, CPA/PFS, MSA

While there may be a public assumption that it is not a problem for high net worth households to afford paying death taxes, what is often not considered about these individuals is what that their net worth is comprised of. Often times individuals with large estates subject to the federal and state estate taxes are business owners, farmers, real estate investors or owners other forms of illiquid investments that are not easily converted to cash. Because of the lack of control we have over the timing of death, generating a substantial sum of cash to pay an estate tax bill can be a challenge and should be proactively addressed to avoid the involuntary liquidation of valuable assets at death.  

Forcing an executor, trustee or other fiduciary to sell a business or other illiquid assets because of the death of its owner can result in the estate and their heirs getting pennies on the dollar relative to what the asset is truly worth.  The layperson may not feel so bad for a family that is set to inherit 7 or 8 figure sums from the liquidation of a business, but the ripple effect of a neglected estate and business continuity plan can stretch beyond the immediate family and into the local community. Quickly selling a business, farm or other asset may force involuntary plant closures, layoffs, or even a dissolution of the entity. This could leave tens or even hundreds of employees without jobs, impacting everything from their retirement savings plan to their family’s health insurance which they have grown to rely on.

While the changes in tax law effective 1/1/18 have helped alleviate some of the financial burden of an IRS estate tax liability (which creates an exemption of nearly $11mm from estate tax per individual, $22mm per married couple with proper planning), there are still continuity risks that business owners face that should be addressed to protect their family, employees and other stakeholders. Individuals with these types of complexities may benefit from advanced planning techniques that place an emphasis on liquidity and efficiency of wealth transfer. This often involves trust owned life insurance to generate cash at a business owner’s death that can be used to pay an estimated estate tax liability. These types of plans are often drafted in conjunction with an entity succession arrangement to facilitate a smooth transfer of control without disruption to the business operations.

An even more proactive approach would involve a formally drafted business continuity plan, including buy/sell provisions which detail out the new ownership structure of the business after an owner’s passing. Creating a buy/sell arrangement will dictate who is to take ownership of the deceased’s business interest and put a plan in place as to how the business is to operate if an owner is to pass away prematurely. This may prevent forced liquidations of businesses or real estate and provide heirs with a clearly defined and understandable roadmap as to how they will be affected.

Continuity plans can be drafted in a multitude of ways, including but not limited to family business and ownership transfer to the next generation, a partnership buyout or even a change to employee ownership over time. The right choice, however, is determined by considering both the strategic goals of the business as well as the personal goals of the business owners.

This information is not intended to be a substitute for individualized legal or tax advice. Please consult your legal or tax advisor regarding your specific situation. US Wealth Management, US Financial Advisors and LPL Financial do not provide legal or tax advice or services.