Peter G. Robbins, CPA, The Daily Record Newswire
Q: I have owned an operated a small business for many years, but it is time I began slowing down and thinking about retirement. I have three children, but only one, my youngest son, is involved in the business. My oldest son has a good job and makes a reasonable living, and my daughter is a stay-at-home mom with two children. I want to leave whatever I have evenly to my children, but most of my wealth is in the business. I want my youngest son to have the opportunity to own and grow the business I have built, but how do I do this and be fair to my other two children?
A: This is such a great question that I wish I had all the space in this paper to write about it. Many books have been written on the subject of passing your business and your wealth to your children, and there are countless professionals who make their living advising on this very issue. There is no one right answer, and this is such an important matter that it would make sense to seek out a professional who has experience in transitioning family businesses. The solution can be very complicated, especially when you factor in the differing situations of your family.
First, be sure to communicate with your children. Since your decision on how to pass on your business and your wealth affects all your children, and since you want to treat them all equally, it would behoove you to talk to them, discuss your wishes and their wishes, and come up with a plan that will make everyone as satisfied as possible.
Second, if the transition is not to happen immediately, be sure to have your plan clearly written in your will, living trust or other estate documents. Don’t expect that everyone involved will remember clearly what was agreed upon. Many serious family disputes arise when a transition plan is not clearly defined.
Based on what you have related in your question, your youngest son is the only child truly interested in the business. I am sure, however, that your other children are very interested in what they will some day get out of the business. Your dilemma of leaving the company to your youngest, but equal wealth to the other two children can be handled in a number of ways, although you may never be fully satisfied with any solution.
Through the years, the most common solution my clients have used is simply selling the business to the child active in the business on a long-term note. You can select a fairly long payout period and use the “applicable federal rate” published monthly by the Internal Revenue Service as the interest rate to make the payments manageable. The money for the payments normally comes from the business in the form of compensation to the child, and as the loan is paid, you are able to build wealth apart from the business that can be left to the other children to “even things out.” Your will should specify what happens to this debt should you die before it is paid in full. And by the way, this is a great use for a well-planned life insurance contract.
One option to avoid is transferring the business equally to all three children. With one inside the business and two outside, you would be pitting your children against each other financially. There will inevitably be differences of opinion on how the inside child should be compensated, how much of the earnings should be reinvested vs. distributed, and more. And, of course, with passive owners in the majority, it diminishes the incentive of the inside child to expand the business.
I have seen other options as well, including selling the business to an outside investor with an employment contract for the one child, leaving the business in a trust with a third-party trustee, and many others. I have seen some of these ideas work very well for one family, and not so well for another. There is never a perfect answer.
I hope I have given you some food for thought, but to be honest, I hope I have not completely answered your question. How you exit your lifelong business and how you treat your children are very complicated emotional decisions. So talk to your children, talk to a professional who has been through this a few times, and good luck!
To ensure compliance imposed by IRS Circular 230, any U.S. federal tax advice contained in this article is not intended or written to be used, and cannot be used by any taxpayer, for the purpose of avoiding penalties that may be imposed by governmental tax authorities. The answers in this column are meant to offer general information. You should consult your tax adviser regarding the specifics of your situation.
—————
Peter Robbins is a partner in the Boise office of CliftonLarsonAllen LLP, specializing in tax matters for small businesses, individuals, and trusts and estates.
