For many of my clients who own businesses, their business is the largest asset in their estate. As a result, it is critical that this asset is properly handled after their death. This blog discusses three reasons why it is extremely important for business owners to have a well-defined estate plan.
Under Arizona law, if you pass away with assets in your estate that are valued at more than $75,000, your estate will have to go through a probate. This $75,000 threshold applies to businesses too. Thus, unless you take some additional planning steps, your business will probably have to go through the normal probate process in Arizona. This can add additional time to the administration of your estate, additional cost to the administration, and the requirement of filing certain paperwork with the Arizona courts in order to administer your estate after you are gone. However, with proper planning, you can avoid probate for your business by using two relatively straight-forward strategies that are discussed below.
For businesses that have two or more owners, a buy-sell agreement can efficiently set forth the way the transfer will occur, and this is typically handled outside of a will or a trust. If the business is owned by one owner or by a married couple, a buy-sell agreement will not work and the transfer is typically set forth in a will or a trust or in certain business formation documents.
A buy-sell agreement is a written agreement that provides a mechanism for the orderly transfer of an owner’s interest to the other co-owners on the occurrence of certain triggering events. Without an exit plan, the owners of an Arizona business are essentially stuck with each other indefinitely even if one of the other owners dies, becomes incapacitated, gets arrested, or files for bankruptcy. A buy-sell agreement defines what happens when these triggering events occur, sets forth the buy-out price, and states whether such buy-out is mandatory or optional for each type of event. Although there can be several triggering events typically built into a buy-sell agreement, including disability, termination of employment, divorce, felony conviction, loss of license, and bankruptcy, this blog focuses on death as a triggering event in addressing the transfer of a business.
After a business owner passes away, the buy-sell agreement also sets forth the price for the buy-out. Most buy-sell agreements use the appraisal method for determining the buy-out value, because it is extremely difficult for co-owners to agree upon a value for the business or on a formula to determine the value at the time of the agreement. Plus, over time, the value can go up or down. In addition to the buy-out price, the buy-sell agreement also sets forth the terms of the buy-out, so that the timing of the buy-out payments is “locked in” when the death occurs.
If there is buy-sell agreement in place for the business, then, as long as the buy-sell agreement is properly funded with life insurance, I recommend that the client allow the buy-sell agreement to handle the buy-out of their business directly with their family.
If the business is owned by a single owner or by a married couple, then buy-sell agreements are not appropriate. One way to solve this issue is to have another owner, often a key employee, buy into the business and become a minority owner. Then, after there is another independent owner in the business, a buy-sell agreement can be used to buy out the original owner when he or she passes away.
When the owner does not want to bring in additional owners or wants to pass the business on to his or her children or others at death, these provisions need to be addressed in the business owner’s will or trust or in the formation documents for the business. Although the successor trustee certainly has the authority to run the business after the owner’s death, he or she often does not have the expertise to do so. As a result, I often see the value of the business go down after the business owner dies.
One idea that is often helpful to maintain the post-death value of the business is the concept of a management committee or board of directors to oversee the operation of the business after the business owner passes. The management committee or board of directors concept can also be incorporated into the business formation documents. However, it is always important to coordinate provisions in the will or trust with the provisions in the business formation documents. If possible, it is also helpful to select someone to take over as the President or Manager of the business after the owner passes and to put that person’s name in the will or trust or business document (after talking with them, of course!)
Finally, once you decide how to handle the business transfer issues in your estate planning documents, it is also important to make sure that your estate planning documents are “talking to” your business planning documents. Both your estate planning documents and your business planning documents need to be tied together, so that that it is clear what happens to your business if something happens to you. When clients have separate estate planning attorneys and business attorneys, a disconnect can often occur, because the right hand does not know what the left hand is doing. By handling both the estate planning documents and the business planning documents for my business owner clients, I eliminate this “disconnect” by making sure that both sets of documents “talk” to each other.
Our firm has helped hundreds of families just like yours handle a wide variety of estate planning, business planning, probate, trust, and elder law issues. When families or business owners are not getting along, we can also handle any disputes and litigation related to their businesses, wills, trusts, guardianships, or conservatorships. Please give me a call, so that I can help you work through these difficult issues with confidence.