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Transferring Your Family Business  Part 1: Common Strategies for Minimizing Taxes

April 26, 2021

There comes a time, when as a business owner, you must decide when to transfer your business and how you will do it. Selecting which estate planning tool you use to transfer the business will depend on if you plan to retire from the business or keep it until you die. 

You will want to make sure the business is transferred to your successors at its full value which means your business succession planning must include ways to ensure continuity with the smallest tax consequences.   

In this post, we will cover some common strategies that you can use for minimizing taxes.

Selling Outright - You may decide to sell your business interest outright to a family member or someone else. With this, you can decide when to sell – now, at retirement, at your death, or anytime in between.  If the sale is for the full fair market value (FMV) of the business, it is not subject to gift or estate tax. However, if the sale occurs before your death, it may be subject to capital gains tax. 

Buy-Sell Agreement - A buy-sell agreement is a legal contract that prearranges the sale of your business interest between you and a willing buyer. This allows you to keep control of your interest until the occurrence of an event specified in the agreement. When the event happens, the buyer is obligated to buy your interest at the FMV. 

Remember, this is a binding agreement which means you can't sell or give your business to anyone except the buyer named in the agreement without the buyer's consent. This could restrict your ability to reduce the size of your estate through lifetime gifts of your business interest, unless you carefully coordinate your estate planning goals with the terms of your buy-sell agreement.

Private Annuities - A private annuity is the sale of property in exchange for a promise to make payments to you for the rest of your life. Here, you transfer complete ownership of the business to family members or another party (the buyer). The buyer in turn makes an unsecured promise to make periodic payments to you for the rest of your life (a single life annuity) or for your life and the life of a second person (a joint and survivor annuity). A joint and survivor annuity provides payments until the death of the last survivor; that is, payments continue as long as either the husband or wife is still alive. Again, because a private annuity is a sale and not a gift, it allows you to remove assets from your estate without incurring gift tax or estate tax.

Self-Canceling Installment Note - A self-canceling installment note (SCIN) allows you to transfer the business to the buyer in exchange for a promissory note. The buyer must make a series of payments to you under that note. A provision in the note states that at your death, the remaining payments will be canceled. SCINs provide for a lifetime income stream and avoidance of gift tax and estate tax similar to private annuities. Unlike private annuities, SCINs give you a security interest in the transferred business.

A successful business transition means getting the most value from the sale of your business. You’re best bet is to consult with a Certified Exit Planning Advisor (CEPA) who is also a Certified Valuation Analysts (CVA). Why? They are by far the most qualified of all experts to help you achieve value acceleration and a successful transition.

Davis & Hodgdon Associates’ exit planning services are developed to address ALL of the essential components that result in a solid plan.

  • Identify your exit readiness score and design a strategy to exit on YOUR own terms and conditions.
  • Articulate and align your personal, business and financial goals. How? We will clarify your mission, strategic goals and key results.
  • Perform a business valuation and design a strategy to maximize the value and sell-ability of your business.
  • Financial planning services through our affiliated firm, Copper Leaf Financial, LLC to develop customized personal financial and "life after business" plans.

For more strategies to minimize tax consequences, be sure to check out Part II of Transferring Your Family Business. 

Davis & Hodgdon Partner John W. Davis, CPA, CEPA, CVA, CFP® is part of an elite group of advisors who are the most qualified to assist you and achieve your business transition goals. He has been working with Vermont business owners for more than 30 years with a special focus on developing strategic exit and transition plans. For more information and to schedule a strategy session please reach out to us in Williston (802-536-1831) or Rutland (802.775.7132) Vermont. You can also email us at info@dh-cpa.com.