Hi, I’m Miles Espy, CPA with Draffin & Tucker. I want to take a few minutes to talk to you today about succession planning for a closely held business. When a closely held business is considering a succession plan, not having it is not having a key component to any business strategy and you want to make sure that you don’t overlook a succession plan.

For purposes of my discussion today, a succession plan is the planned replacement of owners with an interest in a business who are also key employees of that same business. Now, certainly it’s a good idea to have replacement plans for any key employee in a business, but when the key employee is also a owner in the business, it has it’s own set of problems. If, for whatever reason, that employee terminates a relationship with the business, the business as well as the owner are left to determine what happens with that business interest that’s owned by the key employee.

The three primary reasons why a business should consider developing a succession: One of the most immediate of those needs is what happens to a business interest in the event of a death or disability of a key employee? Now certainly, it can be very difficult to lose a key employee and it will present challenges to a business. But the business may have the task of dealing with now, a new shareholder or a new owner of that interest that has received the ownership interest through inheritance. That person might not have the same understanding of the business that the key employee had. That person might not have the same skill set that the key employee had. Quite frankly, that person might not even have the appreciation for the business that the key employee had. So having a succession plan in place helps you be able to deal with the circumstances effectively.

A second reason to develop a succession plan is to be able to provide for planning of wealth transfers. Many owners of closely held businesses find that they accumulate quite a bit of wealth in these closely held businesses during the course of their business life and it may be the primary asset of their total estate. Well a manager of their estate trying to minimize tax burdens, they may have a need to transfer some of that ownership interest in the company during that point in time. So, there’s another reason to consider succession planning.

And a third primary reason to consider succession planning is really for the owner to plan for their ultimate retirement. Many business owners that are key employees in these close held businesses, this is their livelihood and they plan to retire from it some day just like the employee of any Fortune 500 company. And so having a succession plan in place gives them an exit strategy to plan for their retirement.

Now there are several different tools that can be used in developing succession plan. I’d like to cover a few of the more prominent ones with you. The first one is a buy/sell agreement. Now this is really a must for any small business to have one in place where you have multiple owners. Generally, such an agreement addresses what happens to the interest of an owner/key employee in the even of death or disability. So it really covers the first immediate need that we spoke about earlier. Now, many of these plans might require that the company or another of the business buy the business interest should death or disability transpire.

Many times, as a result of that, the business might choose to fund one of these plans with a life insurance policy of some sort so that in the event that happens, not only are you losing the key employee, but you’re having to come up with the capital, and so having that life insurance policy in place sometimes can be an effective tool within the buy/sell agreement arena. Also, just having another tool, if you will, will be a planned gifting strategy that a business can have.

Like I mentioned previously, estate taxes can be an issue for an owner of a business as their wealth in the business grows. Having a plan to work within the context of the current estate tax laws and the gift tax laws will help you transfer that wealth and minimize the tax consequences at the same time.

Another tool that can be used or certain trusts that can be used for really the same reason as the gifting approach to be able to transfer our wealth, but if these trusts are a good fit for you in your business, it can allow you to do it… the transfer at a more rapid pace of what a gifted… a gifting plan might work with. Again, it’s really important to evaluate those trusts because they’re not applicable for every business and every circumstance. Also, having planned sales of business interests to key employees or even people that aren’t associated with the business at all, that may be in a similar business of some sort as a possible planned acquisition of business interests can be part of the plan as well. And this again, will allow owners of these businesses to be able to really have a plan for retirement.

In some instances, you could even have an employee stock ownership plan that can assist in buy out the interest of a retiring business owner. Again, that’s something else that is very unique and is not a fit for every business.

In applying any of these tools that I’ve mentioned in regards to succession planning, one of the things that you have to know is the value of the business. And so it may be appropriate for you to also get a business evaluation as you’re adopting some of these tools into your plan.

And in conclusion, you know, you can see that developing a succession plan can be a very complex undertaking and a number of factors must be considered and every succession planning, every succession plan is unique. There are not two that are just exactly alike, there’s no cookie cutter approach. So it’s important that you have proper guidance.

Please contact me or another professional at Draffin & Tucker for you succession planning needs.