Transition Planning

Dick Brudvik, senior vice president and senior trust officer at Bell State Bank & Trust, offers this article with advice on transition planning for your farm or other family-owned business.

Passing on the Business, Peacefully

By Dick Brudvik, Senior Vice President/Senior Trust Officer, Bell State Bank & Trust

Very often, the main concern of the retiring founder of a family-owned business is how to orchestrate the conveyance of a successful business while, at the same time, maintaining peace in the family. Although each business and family is unique, there are a few typical situations that can affect a smooth transition of family enterprises.

Children

Typically, a problem arises when the talent and hard work of one or more children have been instrumental to the success of the enterprise. An equal division of ownership among all children, then, probably won’t sit well with those who have contributed to the success of the business. Any other division may be viewed as unfair by the remaining offspring.

Their Spouses

What happens if there is relative harmony among the children, but subsequent to the transfer of the business, one of them dies? The common concern often is that some degree of control may pass to a brother- or sister-in-law, who may not be high on the family’s preference list for succession of the business.

Uncle Sam

What about the impact of federal and state death taxes? Will there be sufficient assets in the balance of the estate to avoid a forced sale of the business if a substantial tax bill comes due?

A Story from the Annals of the IRS

Problem:

The parents always had planned to give their son and daughter equal ownership in the family farming business. Both had been instrumental in the success of the farming operation. Until the parents retired, however, both of them and their two children each owned 25% of the business. Unfortunately, as it turned out, the son and daughter had very different visions for the future of the family farming business (he, livestock; she, traditional farming). To add to the problem, the son and son-in-law (the daughter’s husband) actively disliked each other.

Solution:

The livestock portion of the family farming business was to be transferred to a new endeavor, a livestock business, with the son receiving one-half of its stock in exchange for his 25% share of the family farming business. The remaining stock in the newly formed livestock business would go equally to the parents (25% to Dad and 25% to Mom) in exchange for the parents’ collective one-half ownership in the original family farming business. The daughter’s 25% interest in the original business entity was converted to one-half (50%) in the original surviving traditional farming business entity (with the parents owning the remaining one-half ownership). The son and daughter then each would own one-half of a family business, separate and apart from each other.

Potential tax problem:

An IRS claim that the “spin-off” of the shares required the recognition of gain for income tax purposes. To avoid taxation, the spin-off had to be motivated by a solid, non-tax business purpose. Even though other motivations existed (furtherance of family harmony and the parents’ estate planning goals, for example), the IRS said in a private ruling that the business purposes for the spin-off in this family’s situation were sound. Each child could devote his or her undivided attention to the operations that most interested him or her, and each could apply the appropriate business strategy to increase the likelihood of success.

Planning Ahead

Although there are no simple answers, an orderly and well-thought-out approach will help to smooth the transition of a family business from present hands to new. Follow these pointers in your business succession planning and always consult your tax advisor before moving on any decisions of this magnitude.

Understand the “big three” main succession planning issues:
  1. Future management of the business.
  2. Future ownership of the business.
  3. The potential tax consequences upon passage of ownership.

The first two items are not the same. It is possible to transfer management of the business to one child, but equal ownership to all, whether they are involved actively or not.

Involve everyone.

Keeping secrets about what is going to be done with the business often creates conflicts and discord among family members. In fact, springing the plans on family members after everything is in place may well create adversity. An open discussion may help reveal hostilities or concerns that may be addressed ahead of time.

Build a “dream team.”

A succession plan demands expertise in several professional disciplines. Lawyers, accountants, insurance specialists and trust officers all can provide useful planning insights.

Start early.

Many professionals suggest putting a plan in place at least five years ahead of time. Ten years may be even better. In fact, some business advisors are recommending that an exit strategy be built directly into the business plan.

Finally, the plan should be thought of as a plan, and not as a legal document. Its purpose is to keep peace and harmony in the family, not to serve as an instrument to be produced in court.

We can work closely with our clients and their advisors to build a “dream team.” Bell State Bank & Trust maintains a broad base of relationships within the professional community of all of the various disciplines of planning. Starting with the expertise of our internal teams and drawing on our clients’ necessary outside professionals, we lead the efforts as your fiduciary advisors to spearhead a successful business transition plan to help you realize your vision while keeping harmony in the family a high priority.

 

Call us at 701-451-3000 to start the conversation with a member of our wealth management team.

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