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Family Business Succession Planning

Husband & Wife considering succession planning

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For the family business, succession planning is often as important as thoughts of an exit strategy. Many of our successful business clients use either LLCs or corporations for their business structures. Both offer insulation from personal liability for obligations of the business. An LLC or corporation, when combined with a family trust or living trust, becomes a valuable, and cost-effective form of succession planning to ensure your business and personal legacy.

A business structure that provides for uninterrupted continuity for the operation and life of the business requires a thoughtfully prepared corporate shareholder’ or LLC operating agreement that addresses the unexpected events that are part of personal and business life.

5.4 million new business applications were started in 2021. Most of those new businesses will be solopreneurs, or small family-owned businesses.

In part 1, we focused on the 5 key provisions not to be overlooked when drafting an LLC operating agreement or corporate shareholders’ agreement, with a special focus on those owned by multiple owners who are not family members. Let’s examine the same business structures from the perspective of succession planning for the family business.

The Family Business

Single Member LLC or Corporation

When the business owner forms a single-member LLC or corporation, the sole owner must consider what will happen to the management and control of the business upon a sudden death or disability. The sole owner business will not continue to operate smoothly absent a succession plan that transfers ownership of the LLC membership interests or stock in the corporation to a new owner by means of a will or preferably a living trust. Whether it’s a family member or a third party, succession planning is a must.

Three Tips: Family Business Succession Planning

If your business is co-owned with a spouse or significant other, your business structure can also become a valuable, and cost-effective form of estate planning to ensure your business and personal legacy. Here are three tips to leverage ownership in your LLC or corporation into an estate planning vehicle that ensures the seamless operation of your family business when unexpected life events arise.

Owning Shares as Joint Tenants with the Right of Survivorship

In many states, including California, it is legal to hold title to real estate as well as stock shares or LLC membership interests as “joint tenants with right of survivorship.” Title to property held in Joint Tenancy automatically transfers to the survivor of the first to pass. There is no need for probate, nor does the property need to be held in trust. Note: (Do check your own state laws for to learn whether this type of joint tenancy is allowed).

Stock or membership interests held in joint tenancy means ownership of the entire property passes directly to a surviving spouse or child without the need for a will or probate. However, with children, there are additional considerations, so a family trust may well be the best solution.

Avoid Probate with a Living Trust or Family Business Trust

The family business trust, aka living trust, is an important estate planning tool for the family business. Title to corporate shares or LLC membership interests can be held in the name of the Trustee of the Family trust, normally the owner of the business. A family business trust maintains management continuity and avoids the cost and red tape of probate proceedings. Absent a family trust or joint tenancy, a will is necessary and this requires opening an estate proceeding in order to transfer remaining assets directly to an individual or into a trust.

Florist with daughter in family owned business

The trust document specifies how all assets are distributed to beneficiaries and can provide for gifting specific assets to named individuals. The power to manage and control the business can be assigned to a management committee in the case of members of the next generation who are too young to assume full management responsibility.

A living trust for a family is advisable even if there is not a transfer of the actual business to the trust. A regular family trust has the same benefits and allows for continuity and avoidance of probate when properly crafted.

Caveat: The most common mistake made by family business owners is failing to transfer title of assets to the name of the trustee, as trustee of the family trust. In order for a trust to be effective, title to real estate, autos, and company shares or membership interests must be transferred to the trustees of the trust. The same applies to title to personal property and real estate that one wants held in trust.  As a practical matter, you the individual forms the trust, and you also become the trustee of the living trust. You must still record a transfer of the asset from yourself as an individual, to yourself as “Trustee of the Jones Family Trust.”

Family Business Succession Planning through Gifting of Shares

When launching a family business, consider vesting a small percentage of company shares or membership interests in the name of your children, or other family members. This allows vesting of shares when valuation is minimal, and the value of the shares grows tax-free as the value of the business grows. There are lifetime gifting limits as well as an annual per-person exclusion from taxation. Current IRS rules allow an annual gift of up to $16,000 per person per year tax-free.  The rule can be used to transfer a small portion of the business each year to family members working in the management of the business. This amount can be given each year and is not limited to children, but anyone, including long-time key employees.

These are just a few of the considerations in planning your business structure as well as succession planning for the family business. If your business structure and succession planning needs a make over, plan a time to meet with us.

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