What You Need to Know About Estate & Business Succession Planning

Creating strategies for both estate and business succession planning is equally important. 

On the business side, it’s not just about preparing for your retirement but also about preparing for unexpected events. Either way, proper planning identifies which position you want to replace, potential candidates, and how and when that transition would happen. It involves a comprehensive understanding of the business, its key roles and potential successors. 

Personal succession planning, on the other hand, is centered around and directly tied to estate planning. You need to fully consider your individual assets, future goals and how all of that ties into your succession plan surrounding your business.

Below highlights some of the planning basics when thinking about next steps for your business and your estate.

Business Succession Planning Basics

Planning for the future of your business is a process, not an event, and should be a part of your overall strategic planning — meaning you need to make time for it as you would other key areas of the business. Besides planning how you will replace key positions throughout the organization once you or others are gone, this process also allows you to be ready for the unexpected. Exits are not always voluntary or anticipated, and your business needs to be able to continue operating without you or other key individuals in their roles. Here are some things to consider and discuss with your advisers:

• When you exit the business, what amount of proceeds from the sale will you need to live comfortably the rest of your life?
• Be opportunistic: Maintain clean financial records in case a buyer presents itself unexpectedly.
• Consider other existing owners by implementing buy-sell agreements.
• How do family members factor into the business? Will you gift part of the business to them, sell, use other wealth transfer techniques? Keep in mind, transferring ownership to family members generally offers the lowest sale price/least liquidity.
• What about your key employees? Plan for how to purchase ownership and time the proceeds.
• Employee Stock Ownership Plans (ESOPs). Creating an ESOP for your employees may give you a better price, but it also may extend the timing of your liquidity.
• Selling to an unrelated buyer/private equity can maximize your sale price and up-front liquidity.

Buy-Sell Agreements

This is an important area for business owners to understand and implement. A buy-sell agreement is crucial when you own a business with others. It establishes critical guidelines that allow you to plan ahead of time for how to transfer an owner’s (or multiple owners’) interest in the business.

A buy-sell agreement:

• Is a legally binding agreement negotiated by the owners of the company that lays out ownership purchase requirements upon triggering events.
• Defines triggering events, such as:
  • Death or disability of an owner, or
  • Retirement or other exit from the business.
• Limits the buyer pool. You can stipulate things such as, you will share ownership of the company with your cousin, but not your cousin’s husband, for example.
• Sets a value for your company:
  • Provides a written formula, or
  • Requires that an external valuation be obtained.
• Sets a timeframe for payment(s) — whether it’s a one lump sum payment or a note payment to be received over time.

A buy-sell is most commonly structured in one of two ways, as a cross purchase, where the remaining owners will buy the ownership of the selling owner, or as an entity purchase/redemption, in which the company buys the ownership of the selling owner. Sometimes a combination of the two is used. There are pros and cons to both and will depend on the specific situation of the company and its owners. 

In either scenario, there are numerous ways to fund the agreement and buy back an owner’s interests. You can use cash reserves, cash flow of the company, personal savings or borrowings, or even life insurance. Life insurance is often an efficient way to fund a buy back, but keep in mind it only works as intended if the owner dies (versus exits due to disability or retires), if the policy remains in good standing and if the right beneficiaries are named.

Personal Estate/Succession Planning Basics

There are several basic estate planning documents that every single person should have in place. These documents include wills, living or revocable trusts, financial powers of attorney, healthcare powers of attorney and living wills.

• Will. A will is an intention in the form of a legal document where you spell out upon your death where you want your assets to go. Some believe this is the only document they need. That’s generally not the case.
• Living Trust/Revocable Trust. This is next layer of estate planning and it goes hand in hand with your will. Any assets you have will pass according to directions in your trust. If an asset is not named in the trust, it will pass according to your will but will also be subject to probate, which means extra cost and time for your heirs to receive the assets. If your assets go through probate, they also will be a matter of public record.
• Financial Power of Attorney. This allows a named individual to pay bills and handle other financial obligations on your behalf if you can’t, whether due to physical or mental disability or any other reason.
• Healthcare Power of Attorney. This gives someone you trust the right to make healthcare decisions on your behalf if you are unable to.
• Living Will. A living will is the legal document that says whether or not you wish to have life savings efforts performed to extend your life when physicians deem it advisable.

Estate & Gift Tax

The current estate and gift tax rate is effectively 40% of your net taxable estate. That means strategic and proactive estate tax planning is not only well worth the effort, but necessary if your estate will be in excess of the current estate and gift exemption limits — $25,840,000 (filing jointly) or $12,920,000 for an unmarried individual. Here are a few more details to consider from a tax perspective:

• The estate and gift exemption sunsets on December 31, 2025, and would drop likely to about $7 million ($14 million filing jointly) for 2026, unless new legislation is passed.
  • Any unused exemption amount can be “ported” to the surviving spouse.
• The 2023 annual exclusion for making gifts is $17,000 per spouse, so a married couple could give up to $34,000 to any individual this year tax-free.
  • Gifts in excess of these annual exclusions must be reported on a gift tax return to track the use of the exemption.
• Payment of educational expenses or medical expenses of any individual is also exempt, but the giftor must pay the expense directly to the educational institution or medical service provider.
• For individuals under the lifetime exemption amounts, your focus should be on income tax basis planning.

An Overview of Trusts

A trust can help you achieve an estate, financial, business or personal goal, such as:

• Passing on generational wealth to heirs
• Avoiding probate
• Delaying benefits to a beneficiary until they become a certain age
• Removing future appreciation from one’s estate by gifting assets today, while maintaining some control over the disposition of the assets
• Life insurance planning
• Charitable purposes
• Asset protection

The two overarching types of trusts are Revocable Living Trusts and Irrevocable Trusts. Revocable living trusts are often part of the estate planning process, while irrevocable trusts are typically used for gifting and transfer strategies. Below provides a snapshot of each.

Revocable Living Trusts

This type of trust allows you to change or completely revoke them during your lifetime; however, because of this flexibility and control, you, as the grantor, are responsible for tax earned on any assets in the trust.

• The term "living trust" is generally used to describe a trust that a person establishes during their lifetime.  
• Assets can be transferred to the trust during the grantor’s lifetime or at death via their will.
• Assets transferred to these trusts and any taxable income earned by it are taxable in the grantor/grantor’s estate.
• Assets in these trusts avoid probate.
• Distribution provisions to the ultimate beneficiaries are very flexible.

Irrevocable Trusts

Once you set up an irrevocable trust, you cannot change it, but you also wash your hands of any assets contained within it. Those assets are out of your estate, and the trust will have to pay tax on any income earned by the trust assets, unless a special type of trust, known as an intentionally defective grantor trust, is used. 

• Assets can be transferred to the trust during the grantor’s lifetime, or at death via your will.
  • Any assets transferred during lifetime are taxable “gifts” to the trust, requiring a gift tax return.
  • The annual exclusion may be available if the trust contains certain provisions and the trustee follows through on the provisions.
• Generally, these trusts can be amended in only limited circumstances by a special trustee — not the grantor.

This article merely scratches the surface of what can be done in terms of personal estate and business succession planning — but they definitely go hand in hand. There are a host of options available to help you plan for and anticipate the unexpected. Talk with your tax and legal advisers to discuss your options and the best path forward.

Contact Alane Boffa at aboffa@cohenco.com and Scott Swain at sswain@cohenco.com or a member of your service team to discuss this topic further.

Cohen & Co is not rendering legal, accounting or other professional advice. Information contained in this post is considered accurate as of the date of publishing. Any action taken based on information in this blog should be taken only after a detailed review of the specific facts, circumstances and current law.