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  • Business Succession Planning

     

    “A business owner who fails to prepare for his death leaves his family, business, and wealth in an uncertain state, leaves questions about what should be done with the business, and leaves the business open to conflicts about who should be or entitled to take control or have ownership.”

    Many closely held businesses do not survive the death of the owner. While there can be a variety of non-tax reasons, the lack of liquidity, combined with federal transfer tax laws, is an important factor. Insufficient liquidity with which to pay the estate tax may cause a forced sale or liquidation of the business.

    The family business is frequently a primary asset of the owner’s estate. Consequently, it is likely to be looked to as a source of funds for many things. As the owner of a family business you must be realistic in evaluating whether your death, along with all the knowledge and skills accumulated during a lifetime of work, will affect the profitability of the business, affect its ability to pay its debts, affect its ability to support a surviving spouse and other family members, and at the same time survive paying a 40% death tax. If death occurs during a poor economy and no true leader steps forward that can fill your shoes, the business may have to be sold at fire sale prices.

    Family strife can also tear a business apart. Operator-children and non-operator-children likely have different goals and aspirations which can lead to conflict and/or the dismantling of operations. It may be inadvisable to leave shared interests in the business. Sources of conflict include the level of salary to compensate the operator-child, capital expenditures, expansion of operations, debts which require personal guarantees, and worst of all, the non-operator-child who wants an active decision making role. A strong desire to leave a business to one or more operator-children can conflict with the desire for equitable treatment of non-operator-children. If most of your net worth is tied up in the business, limited cash to equalize bequests between operator and non-operator-children makes failure more probable. It will be necessary to allocate some resources away from operations for the purchase of life insurance to achieve equity amongst children.

    The Estate Tax Problem Needs To Be Attacked From Five Directions:

    The planning techniques being used by non-business owners are generally available to business owners as well (see our Estate Planning and Gift Tax Planning page).

    Estate Planning Opportunities For Business Owners Generally Not Available To Other Estates:

    Special Use Valuation Under Section 2032A

    Special Use Valuation under Section 2032A provides an estate tax benefit by allowing a limited right to reduce the value of real property (generally farm and ranch real property) for federal estate tax purposes to the “actual use” value instead of the fair market value of the property (farmers and ranchers should review the Farmer and Rancher  page).

    Section 6166 Deferral of Estate Taxes Related To A Closely-Held Business

    Deferral of Estate Tax Under Section 6166 for up to 14 years on the portion of the estate tax related to a closely held active trade or business. The deferred tax is subject to interest at favorable rates. For individuals dying in 2010 (assuming congress reinstates the estate tax), the interest rate is two percent on a small portion of the unpaid tax balance (approximately $603,000) and 45% of the interest rate generally applicable to IRS underpayments of tax on the balance of the unpaid tax. Depending on the facts and circumstances, an estate can be eligible to pay interest only for the first five years followed by ten installments of principal and interest.

    Section 303

    Section 303 allows you to redeem stock and have it treated as a sale or exchange eligible for capital gain treatment even though it might normally have been taxed as a dividend. Section 303 applies to the extent of estate taxes (including interest), funeral, and administration expenses. Assuming the stock received a step-up in basis to fair market value at the decedent’s death, there may be little or no capital gains tax paid by the party making the redemption.

    The rules to qualify for any of the special benefits under Sections 2032A, 6166, and 303 are very complicated. These elections are made after death and there is no way to be certain that the estate will qualify, until after death. There are many variables that can affect the various tests these code sections demand be satisfied. Complicating matters further, there are questions to which the IRS has not provided clear guidance. In addition, trying to meet all the various tests may preclude you from implementing other estate planning techniques that could reduce taxes overall.

    In the end, cash is king

    You will either have the money to pay the estate tax or you won’t. You will either have the money to make payments on the portion of tax eligible for deferral under Section 6166, or you won’t. You will either have the money to treat non-operator-children equitably, or you won’t. You will either leave the operator-children with sufficient liquid assets to continue the business successfully, or you won’t. For most, life insurance is the critical planning component (see our Life Insurance to Pay Estate Tax page and Life Insurance Services page).

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    Internal Revenue Service Circular 230 Disclosure
    Pursuant to Internal Revenue Service Circular 230, we hereby inform you that any tax advice set forth herein with respect to U.S. federal tax issues was not intended or written by E. Brian Singer, Shaun Singer, EBS Group, EBS Responsible Wealth, or EBS Business & Investment Group, Inc., to be used, and cannot be used, by you or any taxpayer, for the purpose of avoiding any penalties that may be imposed on you or any other person under the Internal Revenue Code.

    Our role is to help you evaluate planning techniques that can reduce your future estate tax and gift tax, and increase the wealth transferred to your family. Brian Singer is not an attorney. Although he is a CPA (Inactive-California), it is not his intention to become your CPA. He no longer engages in the practice of public accounting. This and any other analysis or discussion is not meant to address all the issues and risks as you might find in a technical legal analysis. That task, if necessary, and if you are willing to pay the fee, is the responsibility of your attorney. Brian Singer attempts to take complicated tax principles and reduce them to understandable techniques for the layperson, in plain English. Any discussion and/or written analysis are meant to give you an overview of the anticipated benefits to be derived by employing specific techniques.  Final responsibility for the tax aspects rests with the attorney of your choosing. All techniques require careful drafting by a highly competent tax attorney with specialized knowledge.  A concept that might work when competently drafted, could fail as a result of mistakes made in the documents prepared by an attorney not proficient in these areas. The appreciation rates, investment earning rates, tax rates, valuation discounts, and other factors are hypothetical assumptions.  The benefits from implementing any technique will ultimately be better or worse than described depending upon variation from the assumptions. There are no guaranteed results; either in an economic analysis or in application of the tax law. We hope you will decide to use our services. Any planning we propose is incidental to the purchase of insurance. Since insurance is used to pay estate tax, the less tax you will owe, the less insurance required. The planning is essential in the determination of your insurance needs. You are in no way obligated to purchase any insurance. If it makes sense for you, then buy it; if it doesn’t make sense for you, then don’t buy it. You are not expected to do anything that you feel is not in your best interest. We may choose to disengage at any time.

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