In his presentation, “Seven (not so) Secret Ways to Successful Business Succession,” at the 59th annual Heckerling Institute on Estate Planning, Thomas W. Abendroth shared certain steps that should always be considered, if not implemented, when working with clients on the transition of a family business.
Clients have difficulty letting go of their “baby,” the family business, with even the second and third generations remaining closely tied to the legacy. Therefore, one of the biggest challenges in business succession planning is overcoming the emotional hurdles.
A Marathon, Not a Sprint
First and foremost, Abendroth explains that clients must be convinced that there’s no one solution. Business owners tend to think transactionally, looking for a one-and-done answer. Clients need to understand that estate planning isn’t a transaction; it’s a process. To better advise your client, Abendroth strongly recommends taking the time, even some non-billable time, to understand the client’s business and how it’s valued. For example, get to know the capital structure, capital flow and the owner—it’s important to think like the client. Also get the business history, tax returns, marketing materials, financials, etc. Be sure to ask what the value is and what they want to sell the business for. Often, you’ll get two very different numbers.
Separating Control
From his experience, Abendroth finds that separating control from equity is a valuable step in virtually every case. Control can be separated from equity in any business entity by issuing non-voting stock and non-voting interest. Isolate voting interests in a smaller percentage of equity makes transferring at a lower cost much easier. It’s also important to consider when retained control becomes a problem and the implications of Internal Revenue Code Section 2036. Abendroth highlighted two important decisions on the topic, Estate of Powell and Byram v. United States.
Next on the list is reviewing shareholder agreements and their effect on valuation and planning. The recent Connelly v. United States decision serves as a reminder to revisit buy-sell agreements and, in general, to get clients to follow the shareholder agreements they have in place.
Planning Ahead
According to Abendroth, planning needs to be done sufficiently before the sale to get the full valuation discounts and sell the business in the most advantageous way. If it’s already too far along in the transaction, fewer discounts will be available without running afoul of the rules. It’s not just the client that needs to be educated; corporate colleagues and other advisors involved with the client must be in the loop as well. Valuation discounts aren’t something clients naturally think of. Similarly, when a client is considering charitable planning, remember that charitable donations can’t be made so close to the sale that the Internal Revenue Service will attribute the gain back to the donor.
Eyes on the Prize
Lastly, Abendroth stresses that one should not lose sight of the plan. Get to know the relationships among family members and their relationship to the business. Family relationship issues are lurking in almost all family businesses – advisors must remain sensitive to them. Family meetings are useful and successful if done well, and Abendroth finds that involving spouses, who tend to be influential decision-makers, can prove useful in preventing future family discord. Buying out family members who want out is also recommended—if there are ways to get them off, find them.
While there’s no one proven path to success in succession planning, the important actions discussed in this session can help make a difference.
