Business Succession Planning FAQs

If you are a small business owner, you likely invested a considerable amount of time and resources into starting your business and/or keeping it running if it was handed down to you. Given your investment in the business, you undoubtedly want to protect that investment. One important way to protect your small business is by incorporating a business succession planning component into your comprehensive estate plan. To help you better understand the benefits of business succession planning, the estate planning attorneys at The Mendel Law Firm, L.P have put together some frequently asked questions and answers relating to business succession planning. If you have additional questions or concerns, please feel free to contact our office to schedule a consultation.

• • Why is business succession planning important?

• • Like most business owner’s, you likely made sure to purchase a variety of insurance that protects it against things such as theft, fire, or a natural disaster. While that insurance may be necessary, it isn’t sufficient to protect your business against all possible threats. It doesn’t protect your business against the devastating impact your death or incapacity could have on the business. If something happens to you, all of the time and money you have invested could go down the drain. If you want to ensure that your financial interest in your business is protected in the event of your death, incapacity, or even retirement, you need a business succession plan.

• • How does a succession plan help me protect my business?

• • Every succession plan is designed to fit the unique needs of the business. There are, however, some questions that most plans try to answer, such as:

    • If you are incapacitated tomorrow because of a catastrophic accident or debilitating illness, who will take over the immediate day to day control of your business?
    • Is it clear to your employees, business associates, and family who will take over in your absence and will they accept that person as their leader?
    • Does the individual designated to take over have the legal authority to do so?
    • Will your family continue to benefit financially from the success of the business during your incapacity
    • If you become permanently disabled, or retire, who will take over your business?
    • Will your business be included in the probate of your estate?
    • If your business will be part of your estate, what will happen to the value of your interest in the business if it is sold and how will the value of your interest be determined?
    • If your business is a family owned business have you prepared the next generation to take over?
    • Have you set up the proper legal structure for the business to facilitate the transfer to the next generation?
    • What will the tax implications be for your business should you die?
    • Does the business have sufficient liquid assets to cover any tax debt that might be owed when you die?

• • Why do I need an incapacity plan?

• • Planning for the possibility of your own incapacity is crucial for a small business owner because a small business cannot function for long without someone at the helm.  Equally important, the person at the helm must have the necessary legal authority to run the business. Imagine if you were injured in an accident tomorrow and became incapacitated. Without an incapacity plan in place, no one would have the legal authority to negotiate contracts for the purchase of supplies nor for the sale of products. Banks, suppliers, customers, government agencies would all be unwilling to continue working with your business. Because this exact scenario could happen to you, it is imperative that you plan for the possibility.

• • What is management continuity?

• • Management continuity focuses on what happens in your absence. Who will take over the day to day management of your business? Never assume that someone is willing and able to do so, even if that person is an adult child or even a trusted senior employee. Even if they are, does he/she have the legal authority and practical capacity to step into your shoes? If not, the business could falter rapidly. Both customers and suppliers can become reluctant to do business with an operation when they are unsure who is running the show. You need a designated successor who is ready and able to step up and take over as smoothly as possible should the need arise.

• • When should I start transitioning the ownership of my business to the next generation?

• • For the transition to be successful, you should start the process far enough ahead of time for you successor to learn all that needs to be learned. When the plan is to pass a business on to future generations, you must not only plan for the legal transfer of ownership but also for the practical running of the business. The legal transfer of ownership can be accomplished fairly quickly; however, there are tax advantages to transferring your legal ownership to the next generation slowly instead of all at once after you are gone. In addition, teaching the next generation how to run the business the right way takes time.

• • Is a Family Limited Partnership right for my business?

• • Among the numerous options available that can facilitate the transfer of ownership of your business from one generation to the next, one of the more popular of those methods is through the creation of a Family Limited Partnership (FLP). An FLP allows you to transfer your legal interest in the business to the next generation slowly, over time, while maintaining control over the day to day management of the operation until such time as you are ready to retire. In addition, you may be able to gain tax advantages by using an FLP to transfer interest in your business to future generations.

• • What is a Buy-Sell Agreement?

• • If you do not plan to pass down your business to the next generation, it is vital to consider what will happen to your business if something happens to you. One option is to enter into a Buy-Sell agreement. A Buy-Sell agreement guarantees that you (or your loved ones) will receive the fair market value of your interest in the business in the event you, or your surviving loved ones, must sell it at a later date. In essence, a Buy-Sell agreement is a binding agreement between you and someone who agrees to purchase your interest in the business in the future for a pre-determined price or using a fixed method of determining the fair market value at the time of the sale.

• • Does your small business own sufficient liquid assets?

• • Most small businesses need to be concerned about the issue of liquidity; however, if your business is a farm or ranch you should play particular attention to this issue. Small to medium size farms and ranches are notoriously short on liquid assets because the value of the farm or ranch is usually tied up in land, equipment, livestock, and other non-liquid assets. Federal gift and estate taxes, however, are calculated based on the total value of your estate assets, without regard to whether those assets are liquid or non-liquid assets. If your estate lacks sufficient liquid assets to pay any gift and estate taxes due, your estate Executor will have to sell estate assets to pay off the debt. Those assets, however, could be critical to the continued operation of the business.