I recently attended a seminar sponsored by a major accounting firm at which they shared some thought-provoking information regarding succession planning for family businesses.
Their research revealed that generational transfers of ownership are following a significant downward trend. Increasingly, the daughters and sons of owners are not interested in taking over the family business. Some will choose to follow their own passions and dreams, and others, while still willing to work in the business, will wisely recognize they aren’t suited for the many challenges that come with running a business. So it’s vital that owners know where everyone stands on the issue and factor that into their succession planning process.
When there is a clear successor in the family, the question then becomes how to structure the transition to ensure all family members are treated “fairly” as the new owner assumes the mantle. Some parents will instinctively want to treat family members “equally” in a misguided effort to keep the peace among siblings who may possess a sense of entitlement regardless of their relative contribution to the business. That typically will lead to serious problems.
Andrew MacKinnon is a Partner at SBW Wealth Management and Employee Benefits, (SBW) a Halifax-based firm that serves the wealth management and planning needs of business owners across Atlantic Canada.
“We have had several clients leave a business to two or more children equally with only one of them active in the company,” he said. “This creates issues because the active shareholder does all the work for half the profit or forces the active child to buy out the siblings. This means the active child usually borrows the funds and then has to service the debt with active cash flow and continue to work countless hours to make it all work. The non-active child is left with a bunch of cash and no responsibilities.”
In this example, the retiring owner has good intentions but has inadvertently left the family with a structure that is inequitable, and likely to cause difficulties within the family. There are options available to the family to prevent this from happening.
“It starts with the parents having clarity about the different assets they own and understanding which will be used throughout their lives,” MacKinnon said. “Though the business may be one of the largest assets in their estate, there are often other assets like homes, cottages and/or investment portfolios that can be used to equalize their estate so the active child receives the business and others are treated fairly. It’s important to factor in the tax implications of the various assets so there is enough liquidity to pay any taxes and avoid costly surprises.”
Life insurance is another option that can help in some instances. Owned and paid for by the company, life insurance may provide the necessary cash to help the family equalize the estate and also pay any estate taxes. This could prevent the children from having to borrow and repay the bank or be forced to sell assets.
Addressing this and other issues that are common in a succession planning process requires the assistance of knowledgeable experts and business professionals. Business owners should obtain the advice they need as early as possible in the succession planning process.
Ian MacFadden is co-founder and Partner of exitRITE Planning Services. His column appears the first Thursday of each month. You can reach Ian at [email protected] or go to www.exitrite.com.
