Many successful family-owned businesses choose intergenerational succession planning as the optimal exit for founding or second generation shareholders to transition ownership of the company. This entry reviews some of the common goals, challenges and solutions of family-held business intergenerational succession planning.
Families often have many goals as they begin considering the topic of succession planning. Some of these goals normally include the following:
Business Continuity and Growth. One major goal of succession planning is leadership continuity for the business and positioning the business for new growth opportunities. Normally, the plan is to position one or more active members of the new generation to lead the company and to continue to achieve future growth for the business. Creating a legal structure that provides an appropriate plan for immediate, gradual or future business control is critical.
Fairness. Different family members may have different, and possibly conflicting, desires and expectations relating to a family business. An important goal will be to achieve fairness among family members. Succession planning normally also entails coordination with the family's estate planning, which creates an opportunity to achieve multiple goals through a well-designed, and well-communicated, legal structure.
Cash-Flow Planning for Retirement. A transferred business may be the engine that produces retirement income for the transferring generation. The company can provide cash flow through up-front or deferred purchase price payments for equity, deferred compensation, life insurance premium payments and through other means. Sometimes the most important goal in considering a succession plan is ensuring that adequate cash flow is provided to the transferring family members, especially if the family business represents the majority or primary source of value in the family's portfolio.
Tax Planning. As mentioned above, succession planning normally includes coordination with a family's estate planning. As a result, prudent tax planning must be considered throughout the succession planning process. This tax planning should seek to minimize the impact of gift taxes, future estate taxes and special generation skipping taxes.
Simplicity. There are many tools available to craft the optimal succession plan for a family-held business. Some of these tools involve more complexity than others. Families must balance the need to achieve their goals with the complexity and administrative cost of the legal tools that are available to them.
Once the family's goals have been identified, a succession plan can be designed and implemented to meet the family's needs.
Legal Structures. Common legal structures that families use to achieve their succession planning goals include: direct gifts of stock to family members, gifts of stock to trusts for the benefit of family members, sales of stock to family members or trusts (in exchange for cash at closing or with deferred payment terms), company stock redemptions of senior generation shares (for cash at closing or with deferred payment terms). The family may also initiate a company restructuring to create special nonvoting classes of stock in connection with the plan. There are, of course, many alternatives available to families within these basic categories. The key to choosing the proper structure is understanding the family's goals for succession planning.
Buy-Sell Agreements. Buy-Sell Agreements among siblings or other family members are often needed in order to achieve post-closing succession planning goals. For example, if equity in a business is gifted to two trusts for the benefit of two siblings where one is active with the company and the other is inactive, a Buy-Sell Agreement may allow the active sibling to cause its trust to purchase the other trust's equity in the future. After the sale, the inactive sibling would be able to diversify their trust portfolio with other securities and the active sibling would be able to enjoy the full benefit of future appreciation in the value of the business. One key issue would be when and how to value the company's stock.
Life Insurance. A family often uses life insurance as a future source of funds in crafting its succession plan. In some cases, it may be desirable to create a separate life insurance holding company to own and pay premiums on the life insurance. In other cases, the business itself, or its shareholders, may own the life insurance.
In sum, there are many issues, options and emotions that usually come into play in considering a family-owned business' succession planning. The critical first step is to understand the family's goals and objectives in crafting the plan.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.
