Tips for Succession Planning as a Small Business Owner
A common thing that business owners forget when starting a new business is to determine a plan of succession. It is easy to get too caught up in the now to prepare for the future. But a mismanaged transition can cause your business to lose revenue or fail to survive the transition of ownership. Here are some things to consider as a business owner when building a plan for succession.
An important step of business succession that cannot be overlooked is the business valuation. Conducting an evaluation of the worth of your company will ensure that you are getting proper compensation for the hard work you put into the business. A business’ value encompasses more than assets and physical property; it also accounts for the prospect of future value. This step is crucial for determining retirement, taxes, compensation, and life insurance.
There are four types of business succession, and you should know which one you want as it will greatly affect what the transition looks like.
Transfer to Family Member
- If you run a family-owned business, you will likely transfer the business to a family member. Before a business succession plan is actually made, an important discussion should happen to ensure the other party is interested in taking over the business. Make sure you are both on the same page about what the other wants.
Transfer to Co-Owner
- If a company has more than one owner, there is usually a default agreement about who will take full ownership of the business. However, this does not negate the need for a clear-cut business succession plan. The owners will need to discuss buying the shares of the retiring member, and potentially acquiring life insurance since a great amount of capital is necessary to buy up a portion of the company’s shares.
Transfer to Employee
- If there are no co-owners or family members to inherit the business, a current employee could be the preferred option for succession. It is usually someone who already knows the business in and out and shares the owner’s vision for the future of the company.
Transfer to Another Company or Outsider
- Another option for business succession is to transfer ownership to a third-party that is outside your family or organization. This will require a detailed succession plan that is agreed upon by both parties.
Pay Attention to Tax Efficiency
The value of your business and your business succession plan can have several tax implications. If you gift assets to family members, this can reduce the overall worth of the business, lowering your tax liabilities down the road since monetary gifts are not taxed up to a certain amount. When ownership of the business is transferred, whether it goes to a group of shareholders or to family members, the new owners will usually end up having to pay estate tax. The recipients of the business might take out life insurance with the purpose of using it to pay the estate tax. As estate tax conditions and rates are expected to change in the near future, it is important to consult a tax professional to build the most tax-efficient succession strategy.
Choose a Power of Attorney
Even if you plan business succession far out from retirement, the unpredictable can happen. It’s important to designate power of attorney to someone you trust. In the event that you are unable to manage your business or finances, this person can make decisions on your behalf. Having power of attorney in place can save your business partners and family members from being put into a difficult position. Power of attorney is the next best option after having a business succession plan, but it still can leave a lot of how your legacy is handled up to chance.
Creating a Post-Succession Plan
Business succession usually comes with a big change in your income and lifestyle. Retirement can mean a loss in income and a gain in free time which can result in a difficult transition. By having financial systems in place before you retire, you can ensure that you maintain the lifestyle you want. Your business succession plan should include your retirement plans so that you are properly compensated, either all at once or in the form of monthly payouts.
Make a plan sooner than later for what you are going to do with your time. Many people see retirement as an opportunity to pursue passion projects, enjoy more time with their family, or travel to dream destinations, etc. To some, being retired is a new job in itself, a job that only requires you to enjoy the fruits of your life’s labor.
When it comes to business succession, it is never too soon to start. Don’t leave important conversations until it is too late to get the most out of succession. Planning for a future transfer of ownership is just another necessary part of your business model. If your business could not survive a transfer of ownership tomorrow, then there may be some structural changes that are needed today. For more information on planning for business succession, talk to a financial expert at PlainsCapital.com.