The Family Business: The Key to Preservation Is Planning


Business planning involves a complex array of personal, legal and financial decisions. To execute an effective plan, small business owners typically need an integrated team of financial professionals to guide the process.

Some Common Transfer Strategies – Many strategies are available to assist small business owners in transferring–and preserving–both business and personal wealth while also minimizing tax consequences. Following are general descriptions of a few of the more commonly used instruments.

Family Limited Partnerships (FLPs) are used by business owners to shift income and equity to the next generation without surrendering management control. Assets placed in an FLP are converted to “limited partner” and “general partner” shares. As the general partner, the owner retains control over the business.  The limited partnership interests are gifted to beneficiaries, generally at a discount from the underlying value of the business.  The ability to apply a discount results in reduced gift tax liability. The discount applied to the limited partnership assets results from the fact that the limited partnership interest  are restricted–less liquid, harder to sell–and consequently, their value can be  discounted for tax purposes.1

Grantor Retained Annuity Trust (GRAT) is a type of irrevocable trust that allows a business owner to gift assets to the trust, retain an income stream from the trust for a period of years, and pass the appreciation in the value of the business free of tax to his or her beneficiaries at the end of that period.  However, in order for the GRAT to work as intended, the business owner must outlive the term of the trust.

Life insurance is used by many family-owned businesses to transfer assets and/or fund estate taxes, either through an irrevocable life insurance trust or in connection with a buy-sell agreement.

Private annuities allow business owners to transfer the business to another family member in exchange for a lifetime stream of income. By doing so, the owner removes the value of the business from his or her estate (and relinquishes interest in the business).  In order to be effective, the  value of the annuity must equal the value of the business.

Systematic Gifting removes future appreciation of the gifted assets from your estate and may enable you to take advantage of valuation discounts. The current gift tax annual exclusion amount is $14,000.  This means that a gift of $14,000 can be made to as many people as you wish without incurring any gift tax or the need to file a gift tax return.2

When a business is a central part of the wealth equation, transfer strategies such as those outlined above represent just a small part of the planning that is required to ensure a smooth passing of wealth from one generation to the next. Other equally important elements include a business valuation and net worth assessment, a contingency plan to protect the business and the owner’s family in the event of sudden death or disability, and liquidity strategies to help the owner facilitate other financial goals.

If you count yourself among the many business owners who have navigated their companies through the past several years of economic hardship and are ready to pass the baton on to the next generation, contact your CPA, legal counsel and/or tax planning professional to explore the opportunities and challenges involved in implementing the best wealth transfer strategy for you and your family.