“The future depends on what you do today.”
– Mahatma Gandhi
Truer words where never spoken when it comes to the impact that marriage or death can have on a closely held business. Death is certain and divorce is common. Proactive legal protections and succession planning can eliminate or mitigate the potential negative fallout of divorce, sudden death, and family discord. It is also true that where business trouble looms, taxes are never far behind. So planning in advance is a must.
Plan Ahead and Start Early: Prenuptial Agreements
An estimated 40-50% of first marriages end in divorce. The divorce rate for second marriages is even higher. Those statistics require the attention of any closely held business.
A prenuptial agreement (prenup) is an excellent tool to minimize or eliminate potential issues in death and divorce. A prenup is entered into by prospective spouses in contemplation and anticipation of marriage where parties can define monetary values and address what will happen in the event of death and divorce. These agreements help avoid inevitable dilemmas by planning now for what may happen in the future.
Moreover, a buy-out of a spouse’s interest and a forensic accountant reviewing the business’s records are two realities in divorce or probate court. Trials are public record and, therefore, financial documents and testimony make your private business a public record.
Succession Planning Shouldn’t Start at Death, Disability, or Divorce
Often times, the family business will be an individual’s most valuable asset. Therefore, the family must determine whether the business will be passed to future family members or sold in the event of death or divorce. It is therefore paramount that succession planning be just that, planning and not reacting to the death, disability, or divorce of an owner.
If the owner wants to pass the business to younger generations, it is important to determine how engaged the family is in the business, whether they have the ability to effectively manage and operate it, and what roles the individuals will have. If a family business is owned by people who are not related, it is important to have buy-sell agreements in place and a succession plan, in case that an owner becomes disabled or dies.
The specifics of the succession plan chosen will determine the tax consequences to the owner. For example, a business owner selling shares of a corporation will experience a capital gain or loss. Alternatively, a business owner may choose to transfer ownership by gift to a family member, which may invoke gift tax consequences.
The same way a business must coordinate its engineering, production, sales and marketing functions, it must also take a synergistic approach to planning for life’s inevitable and common events. Given the complexity outlined here, it is recommended business owners consider hiring family law and estate planning specialists who work well and closely together in order to develop the optimal long-term plan.
Succession Planning 101