Estate Planning and Business Succession Planning: The Lines Blur When a Family Business Comes Into Play
Brandon Vahl, CPA, CFE
For many business owners, estate planning and succession planning go hand in hand. If you are the owner of a closely held business, you likely have a significant portion of your wealth tied up in the business. If you do not take the proper estate planning steps to ensure that the business lives on after you are gone, you may be placing your family at risk.
Separate ownership and management succession
One reason transferring a family business is such a challenge is the distinction between ownership and management succession. When a business is sold to a third party, ownership and management succession typically happen simultaneously. But in the family business context, there may be reasons to separate the two.
From an estate planning perspective, transferring assets to the younger generation as early as possible allows you to remove future appreciation from your estate, minimizing estate taxes. On the other hand, you may not be ready to hand over the reins of your business or you may feel that your children are not yet ready to take over.
There are several strategies owners can use to transfer ownership without immediately giving up control, including:
- Placing business interests in a trust, family limited partnership (FLP) or other vehicle that allows the owner to transfer substantial ownership interests to the younger generation while retaining management control;
- Transferring ownership to the next generation in the form of nonvoting stock; or
- Establishing an employee stock ownership plan.
Another reason to separate ownership and management succession is to deal with family members who are not involved in the business. Providing heirs outside the business with nonvoting stock or other equity interests that don't confer control can be an effective way to share the wealth while allowing those who work in the business to take over management.
Work around conflicts
Another unique challenge presented by family businesses is that the older and younger generations may have conflicting financial needs. Fortunately, several strategies are available to generate cash flow for the owner while minimizing the burden on the next generation. They include:
- An Installment Sale of the
Business to Children or Other Family Members
This provides liquidity for the owners while easing the burden on the younger generation and improving the chances that the purchase can be funded by cash flows from the business. Plus, as long as the price and terms are comparable to arm's-length transactions between unrelated parties, the sale shouldn't trigger gift or estate taxes.
- A Grantor Retained Annuity
By transferring business interests to a GRAT, owners obtain a variety of gift and estate tax benefits (provided they survive the trust term) while enjoying a fixed income stream for a period of years. At the end of the term, the business is transferred to the owners' children or other beneficiaries. GRATs are typically designed to be gift-tax-free.
- An Installment Sale to an
Intentionally Defective Grantor Trust (IDGT)
This is a somewhat complex transaction, but essentially a properly structured IDGT allows an owner to sell the business on a tax-advantaged basis while enjoying an income stream and retaining control during the trust term. Once the installment payments are complete, the business passes to the owner's beneficiaries free of gift taxes.
Because each family business is different, it is important to work with your estate planning advisor to identify appropriate strategies in line with your objectives and resources.
Get an early start
Regardless of your strategy, the earlier you start planning the better. Transitioning the business gradually over several years, or even a decade, or more gives you time to educate family members about your succession planning philosophy. It also allows you to relinquish control over time and to implement tax-efficient business structures and transfer strategies.
Controlling Your Unemployment Expenses
Seamus Donoghue, CPA, MST
The manufacturing sector tends to spend a lot on salaries and bonuses. Therefore, federal and state unemployment insurance can represent a significant cost of doing business. Fortunately, your management team can take proactive measures to help lower this cost, which varies depending on your work states, employment history and management practices. Here's what you should know.
Unemployment insurance provides a temporary weekly benefit to qualified workers who lose their jobs through no fault of their own. Funding for the state and federal portions of the unemployment insurance system is drawn from payroll taxes imposed on employers under the State Unemployment Tax Act (SUTA) and the Federal Unemployment Tax Act (FUTA), respectively.
Under the unemployment insurance system, individual states have the authority to do the following:
- Administer the unemployment insurance system;
- Establish eligibility rules;
- Set regular benefit amounts; and
- Pay benefits to eligible people.
Each state sets a tax rate schedule and a maximum amount of wages that is subject to taxation. Currently, the state wage base ranges from $7,000 in Arizona, California, Florida and Puerto Rico to $46,800 in Hawaii. The average tax rate also varies from state to state. Therefore, just because your state's wage base is higher than another state's, it does not necessarily mean that you will pay more in state unemployment taxes.
For example, although California's unemployment tax wage base is only $7,000, the average employer in California contributed 4.33% of taxable wages to the state's unemployment program in 2018. By contrast, the average employer contribution rate in Hawaii was only 1.01% of taxable wages in 2018.
Since 1983, the FUTA tax rate has been 6% of a maximum of $7,000 in covered wages per employee per year. Employers may be eligible for a maximum FUTA credit of 5.4%, resulting in a normal net FUTA rate of 0.6%, or $42 per year for each employee earning at least $7,000 annually.
Estimating your cost
In most states, established businesses will be assigned an "experience rating" from the state. That rating determines your state unemployment tax rate.
Your company's experience rating and, therefore, its tax rate may be influenced by the number of former employees who have filed unemployment claims with the state, the number of your current employees and your company's age. Typically, the more claims made against your company, the higher your premiums climb. Conversely, your company will pay state unemployment tax at a lower rate if your company's involuntary turnover rate is lower.
Some states may allow employers to buy down their unemployment tax rates. Businesses that recently acquired another may also be able to use the acquired company's unemployment tax rate, or request the transfer of the previous company's unemployment reserve fund balance.
In addition, you can follow these best practices to help lower turnover and, thus, lower unemployment taxes:
- Hire new staff conservatively;
- Consider using temporary workers, part-timers and contractors during peaks, if possible;
- Remedy workplace conflicts and keep a worker;
- Assess candidates with standardized testing before hiring them; and
- Conduct ongoing staff training to enable employees to succeed.
If you must terminate an employee, consider giving that individual a severance payment as well as offering outplacement benefits. Severance pay may reduce or delay the start of unemployment insurance benefits. Plus, effective outplacement services may hasten the end of unemployment insurance benefits because the claimant has found a new job.
A cost-analysis study, which can be performed with the help of your CPA, will enable you to assess via black-and-white projections whether increasing your payroll is worth the investment. If it is not financially attractive to add staff, consider other options.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.