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Estate Planning for Closely-Held Business Owners

August 7, 2022

If you’re the owner of a closely-held business, chances are you’re so busy with the daily activities involved with running a business that you haven’t had time to put an estate plan in place. Or, if you do have an estate plan, it hasn’t been updated recently. While having an estate plan is important for everyone, it is particularly important for closely-held business owners in order to protect the business you’ve worked so hard to build. Neglecting to put a proper plan in place could be putting your business at risk. A comprehensive estate plan ensures that both your personal and business matters are handled in accordance with your wishes in the event of your death or disability. Below are some things business owners should consider when putting together an estate plan.

Estate Planning Documents

An estate plan for a business owner should typically incorporate the core estate planning documents including a will and/or trust, financial power of attorney, and medical power of attorney or healthcare directive. Without a will or trust, your assets (including business interests) will be divided and distributed according to state law. And, without powers of attorney, a guardian and/or conservator may be appointed by a court to manage your affairs (including matters related to your business) in the event you become disabled. By putting in place the proper estate planning documents, you can ensure that your assets, including your business interests, are handled appropriately upon your death or disability.

If your business is family-owned, you will want to address any potential issues in your estate planning documents. For example, if one child is interested is taking over the business, but the other is not, you will want to determine whether to leave all business assets to one child and all other assets to the other. You will also want to consider how to equalize these distributions (if at all) in the event there is a disparity in value. By addressing these issues, you may avoid disputes among family members that could jeopardize the future success of the business.

Tax Planning

If you’re a business owner that may be subject to estate tax (federal and/or state), the appropriate tax planning could be critical to ensuring continuity of the business. For many business owners, a large portion of their assets consist of closely-held business interests. If estate taxes are likely to be due as a result of a business owner’s death, their plan should anticipate providing liquidity for the payment of any estate taxes. Federal estate taxes are typically due nine months from the date of death, but it’s possible to make an election to defer payment for federal estate tax attributable to a closely-held business interest under certain circumstances.

Incorporating life insurance in an estate plan can be an effective way to provide some liquidity to avoid selling business interests. Alternatively, an estate may be able to take advantage of a “Graegin” loan, which is named after a Tax Court case. A Graegin loan may help secure the liquidity needed to pay the estate tax and reduce the overall taxable value of the estate by deducting the future interest payments up front, assuming that the estate can meet all of the necessary requirements.

Buy-Sell Agreement

If there is more than one owner of your business, consider putting a buy-sell agreement in place with the other owners as part of your estate plan. The primary purpose of a buy-sell agreement is to control the ownership of the business, typically to remain with the existing owners in the event of the death, disability, or retirement of an owner, or if a dispute arises amongst the owners. It includes provisions to address who may buy an owner’s interest in the business, under what circumstances, and how the purchase price will be determined. If you are a co-owner of a business, and your spouse (or other beneficiary) is not involved in the business, this can be an effective way for the other owners to buy your interest and provide your estate with liquidity. A buy-sell agreement can also help avoid potential disputes among the remaining co-owners and your estate.

Life and Disability Insurance

As a business owner, you will want to consider how life and/or disability insurance may be incorporated in your overall estate plan. Most business owners should consider life and disability policies for both personal and business reasons. Life insurance can provide your beneficiaries with liquidity to pay taxes or other expenses upon your death. For business owners, company-owned life insurance (sometimes referred to as “key person insurance”) can provide an income stream to the business to ensure continuity of the business in your absence. In addition, disability insurance can provide similar coverage in the event of your short-term or long-term disability.

Create a Succession Plan

A critical part of an estate plan for a business owner is creating a succession plan for the business that outlines how you are preparing for a transition in ownership. The succession plan should be consistent with your estate planning documents and anticipate either a planned transition (such as retirement), as well as an unplanned event (such as an untimely death or disability). The plan should include whether the business, if viable, should be continued, or if the business should be prepared to be sold to a third party or as part of an internal transition. The plan should also outline the proposed organizational structure of the business and what functions key employees will assume in the event of your absence. Finally, consider whether additional training may be necessary, as well as compensation adjustments or other incentive planning to ensure key employees remain with the business during the transition period.

Your Estate Plan

Have you reviewed your estate plan recently? If not, changes in your life, your family, and in tax law may make this an excellent time to meet with one of our trust and wealth planning professionals. We will discuss your goals and concerns, provide you tools to support your decision-making, and help identify areas where changes may be appropriate. We will also discuss how First Western Trust may assist your family as your Trustee or Personal Representative.

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