Safely Transferring Business Assets to Succeeding Generations
If you own a family business in Minnesota, you likely take great pride in the wealth your company has enabled you to earn over the years. And, like many family business owners, you may wish to keep your business in the family long after you’re gone. But this rather simple desire is fraught with dangers in the form of potentially high transfer taxes. Here are some ways to give your business assets to succeeding generations without giving too much to the federal government.
The Taxing Problem
The apparent simplicity of family business transfers has fooled many parents and grandparents. They often assume that a successful transfer is assured as long as their wills specify how assets should be split among their children and grandchildren. But these heirs have later been shocked to learn that the federal and Minnesota tax bill on an estate can reach as much as 49% (in 2003) of the estate’s total assets.
If you fall prey to this pitfall, your heirs will face a difficult choice. To cover the unforeseen estate tax burden, they may be forced to either sell the business or borrow a substantial sum to keep your company going. The first option isn’t really an option at all, but rather an admission of defeat. And the second one isn’t much better — the debt burden may prevent your heirs from investing in improvements needed for the business to remain competitive and grow. And this could trigger a drop in profits and business value that leave them no alternative but to sell anyway.
Although your family members could use other estate assets (such as life insurance proceeds) to pay future taxes or take advantage of special estate tax breaks for closely held businesses, your best bet is still to minimize the value of your estate. One good way to do so is gifting stock to family members, thus using your annual gift tax exclusion ($12,000 per donee in 2008) as well as your lifetime gift tax exemption ($1 million) to transfer interests currently, before they increase in value further. You might also give away other assets during your lifetime, which still reduces the overall estate tax, or look to special strategies such as family limited partnerships, grantor retained annuity trusts and charitable trusts.
Your Best Defense
Your first step toward considering a family business transfer should be a realistic assessment of your future estate tax burden. Then you can move on to choosing the strategies that will allow you to pass the business to your heirs without forcing them to incur unnecessary debt or suffer a forced sale to pay taxes. Please call us for help with these critical tasks.
Sidebar: The More the Merrier: Splitting Up Your Business
Many family businesses in Minnesota concentrate their ownership among older members who are likely subject to higher estate tax rates than their younger kin. Therefore, one effective estate planning strategy is to create multiple family businesses. In other words, rather than having your children remain in the family business, you may want to split it up by having them start a complementary or even competing company.
For instance, if you’re considering an additional business location, it may be tax advantageous for your child to open the new location instead. Or he or she could establish a business that leases equipment or buildings to your company. True, a child in a competing company may take away some business from you — but he or she will remove transfer taxes as well.
Of course, the loss of control associated with such a bold strategy may worry you. But you can maintain control and shift money-making opportunities to children through the use of various entities — including limited partnerships, limited liability companies and corporations. You may even be able to issue voting and nonvoting ownership interests for this purpose. Ultimately, the use of multiple entities may increase the complexity of business planning, but it can also provide protection where each entity is insulated from the others’ liabilities.