Business Estate Planning Research Paper Starter

Business Estate Planning

(Research Starters)

This article focuses on business estate planning. It will provide a general overview of the business estate planning process for both family owned businesses and closely held businesses. Topics of discussion include business estate planners and advisers, business estate planning goals and objectives, the connection between Internal Revenue Code and business estate planning, and succession planning. The issues associated with post-mortem business estate planning will be addressed.

Keywords Business Estate Planning; Family Owned Business; Internal Revenue Code; Loosely Held Business; Post-Mortem Business Estate Planning; Succession Planning



In the United States, small businesses, which characterize the majority of closely held businesses (CHB) and family owned businesses (FOB), drive the economy. Ninety percent of U.S. businesses are classified as small businesses with fewer than 500 employees. These small businesses employ 82 million people and generate 50 percent of the non-farm private gross domestic product. Despite the strength and power of small closely held businesses and family owned businesses, numerous small businesses do not survive the transition from first generation to second generation ownership and management. When a business owner dies or retires, the business may be liquidated, continued, or sold to family, employees, or outside party. Small businesses, both closely held businesses and family owned businesses require successful business estate planning to survive the transition from first to second generation ownership (Grassi, 2007).

Businesses, including closely held business and family owned business, require estate planning to control the direction and future of the firm at the time of an owner's death or retirement. Business estate planning refers to the minimization of estate or transfer tax as well as active succession planning undertaken when transferring a family-owned business or closely held business to the next generation. Small businesses are all at risk for failure when the business owner dies or retires. For example, the lack of a clear business successor and estate taxes as high as 55 percent ruin many businesses. Business estate plans are intended to minimize business disruption during the transition phase between business owners or managers (Hess & Havlik, 2005).

Effective business estate planning involves the following steps and stages: Educating business owners and heirs about the estate planning processes and issues; coordinating and sharing plans with all significant shareholders; addressing the next generation's estate plans; soliciting multiple opinions from estate planners; sharing the business owner's intentions and plans fully with the board of directors; and reviewing the estate plans regularly with business estate advisers. Business estate planning requires that business owners and heirs address potentially uncomfortable issues such as mortality, aging, privacy, power, business operations and goals, resources, family dynamics, and leadership. Common issues associated with the choice to delay or forgo business estate planning include: Making irrevocable decisions, fearing disclosure, and clinging to privacy. Business owners that fear and delay business estate planning due to the potential complications, loss of privacy, and the risk of heirs losing their companies to estate taxes, family fighting, and lack of clear leadership (Ward & Aronoff, 1993).

The following section provides a general overview of business estate planning processes for both family owned businesses and closely held businesses. Topics of discussion include business estate planners and advisers, business estate planning goals and objectives, the connection between the Internal Revenue Code and business estate planning, and succession planning. This section serves as a foundation for later discussion of the issues associated with post-mortem business estate planning.


Preparing a Business Estate Plan

Ideally, business estate planning should begin at the very start of a business venture. To maximize the advantages available from effective business estate planning, business owners should choose their business entity or type with their estate plans in mind. The business type will limit or expand the options and financial tools available to the business upon the business owner's retirement or death (Grassi, 2007). The following sections describe the key elements of the business estate planning process.

Business Estate Planners

Business estate planning, which generally includes business succession decisions, requires the input of multiple parties including business owners, family business counselors, estate-planning advisers, accountants, lawyers, managers, and human resources personnel. The lawyer involved in the business estate planning process will review the following documents: Articles of incorporation, articles of organization, bylaws, operating agreements, partnership agreements, other governance documents, loan agreements, and any other relevant documents and contracts. In some business estate planning processes, multiple lawyers will be required to review and prepare documents. For example, a business lawyer prepares the buy-sell agreement, a labor lawyer prepares the employment agreement, a tax lawyer prepares the retirement and deferred compensation plan, and an estate planning attorney prepares the wills and trusts (Grassi, 2007).

Business Estate Planning Objectives

Business owners develop estate plans for multiple financial and personal reasons. Business owners generally make their estate planning goals and objectives explicit as part of the estate planning process. Common estate planning objectives and goals include the following: Treat all heirs fairly; provide heirs who are active in the business with an opportunity to progress in the business; minimize transfer estate and gift taxes; avoid a forced liquidation of the business in the event of the business owner's death; retire and receive a monthly pension from the business; receive an income from business for perpetuity; provide for the surviving spouse and any minor or dependent children; design a succession plan for the business that provides stability for the business and its owners as well as certainty as to the transfer of ownership and control of the business; engineer a smooth transition of the business without the loss of revenue or consumer confidence; and design a business estate plan that coordinates with and facilitates the business succession plan (Grassi, 2007).

Internal Revenue Code

The Internal Revenue Code (IRC), particularly IRS Revenue Ruling 59-60, and numerous other laws, such as the Economic Growth and Tax Relief Reconciliation Act of 2001 and the Pension Protection Act of 2006, control and regulate business estate planning. Federal estate taxes, as described in the Internal Revenue Code, rely on accurate business valuations. IRS Revenue Ruling 59-60, passed in 1959, accomplished the following: Provides a framework for the best way to value shares of capital stock of closely held corporations for estate and gift tax purposes and defines fair market value as the general standard of value for federal estate and gift tax purposes (Maccarrone & Warshavsky, 2003).

The Internal Revenue Code permits the following techniques and strategies to be used for business estate management and execution: Installment sale, private annuity, gift or sale leaseback, intentionally defective irrevocable trusts (IDIT), special use valuation, and buy-sell agreements (Rattiner, 2004).

  • Installment sale: Installment sale refers to the sale of a business to a family member through a manageable payment schedule. This strategy spreads the business estate tax burden over the life of the transaction.
  • Private annuity: Private annuity transactions refer to arrangements in which the buyer of a business receives an asset, such as real estate, from the seller in return for a promise to pay an annuity for life to the seller. Internal Revenue Code section 72 governs the taxation of private annuities. In most cases, the exchange in a private annuity transaction is viewed as even and goes untaxed.
  • Gift or sale leaseback: The gift or sale leaseback transaction refers to arrangements in which the parent company disposes of an asset to reduce the size of the estate but leases the asset back for company use. The Internal Revenue Service, to prevent fraud, reviews and...

(The entire section is 3809 words.)