The sheer magnitude of estate taxes often are a roadblock to passing the family business on to heirs that many owners don't foresee. Whether big or small, bankruptcy or liquidation.
Family-owned businesses can be hit with taxes in excess of 50 percent of the value of the business -- a staggering number that prompts many owners to sell the company to avoid burying heirs beneath a bedrock of taxes.
However, according to Mary Boehler, vice president and division manager of the Family Business Division of The Northern Trust Company, there are methods to help reduce tax liability and retain the family business.
Step One: A Family Meeting
Boehler says the process begins with careful planning done well in advance of an owner's physical decline or retirement. "A meeting should be held with family members who are currently involved in the business as well as members who aren't but will likely inherit an interest. Be sure to include spouses as they generally have a vested interest and substantial influence in the outcome," adds Boehler. "Have the meeting professionally facilitated to be sure all pertinent issues are addressed."
Step Two: Professional Valuation
It is wise to obtain a professional valuation of the business to determine its fair market value. This ensures that any gift or estate planning is based on values that will be accepted by the IRS, and that all parties involved know the figure is accurate and objective.
If the decision is made to pass the company on to heirs, an estate planner should be retained whose objective will be to balance tax concerns with the personal and financial needs of all parties involved.
"Estate planning decisions may differ depending on the size, nature and prospects of the business, which family members will be actively involved in the business and which will benefit only economically, and the financial needs and expectations of the parent/owners," says Boehler.
Step Three: Identifying a Strategy
Current business owners can transfer ownership interests to family members/heirs through gifting programs utilizing annual exclusion gifts and unified credit gifts.
With any ownership transfer, discounted values apply for non-control or minority interests in a business and for the non-marketability (selling difficulty) of holding less than 100 percent. Minority discounts may range from 25 to 35 percent and discounts for non-marketability from 20 to 40 percent. Transfer tax is minimized because it is computed on the discounted figure of the business block being transferred, not the full value.
Non-corporate entities such as limited partnerships, limited liability companies and Family Limited Partnerships are increasingly popular methods of transferring minority interests from one generation to the next. However, due to close IRS scrutiny, taxability issues and varying state laws, it is wise to consult legal and tax counsel to determine if these are appropriate.
"The most important aspect is to develop the plan well in advance so all parties are fully aware of its outcomes and have no false expectations," she adds. "The point is to keep as much of the estate in the family's hands as possible."
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