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Selling or transferring a business to family members

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Selling or transferring a business to family members

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This is the fundamental question that every business owner must ask himself. Unfortunately, the answer is “it depends.” It depends upon many factors, including (a) whether the next generation is to receive the business interest and are they prepared to handle it, both in terms of maturity and business acumen, and (b) the tax consequences of a transfer including, either income taxes in the case of a sale, or in the case of a bequest to a family member, estate, gift, and generation-skipping taxes.

The tax considerations relating to the transfer of a business should not be the determinative, or only, factor in deciding whether to keep the business within the family. That is, the tax consequences should not dictation the business goals. In addition, the first factor, the preparedness of the inheriting individuals, should not be underestimated. In fact, a recent study on the subject showed some surprising statistics that should be considered and planned for. The study reported that 95% of the businesses that fail after they are inherited by the next generation do so for one of three reasons:

(1) Family relationship problems (accounting for 60% of business failures)

(2) The children (or other heirs) lacked sufficient education, experience, or emotional preparedness to run the business (accounting for 25% of business failures); and

(3) Transfer taxes required the business be sold to pay the tax liability (accounting for only 10% of business failures).

Traditionally, estate planners have focused on the last of these items, mostly because this is where estate attorneys can help. (Most estate planners are not additionally CPA’s with Master’s degrees in taxation with 20 years of business consulting experience either) However, the statistics show that a business owner should duly consider the first two items. Therefore, when dealing with the succession of a family business, the business owner must consider how the family operates (or would operate) the business as a family together especially after the death of a matriarch or patriarch. For example, what does he or she expect of the different family members, and what roles they will be play in the continuing business after it is transferred to them? Are these expectations realistic or idealistic? Would the family members get along? How do they handle conflict resolution currently? Would they agree on financial decisions? Do some have higher (or lower) business risk tolerance?

Failing to think carefully through questions like these can create serious problems down the line after a business is inherited, as the above statistics make clear. Conversely, helping a family face and resolve or minimize these problems ahead of time is probably the most important step to helping ensuring the future success of the business because it may lead to discovering where potential family relationship problems are likely to arise (i.e., negative behaviors and feelings about the family business). It may also help find adequate solutions to help the heirs fit into their newfound roles in the continuing family business.