the Sale of a Family Business
Gayllis R. Ward, S. Mackintosh Pulsifer, and Kurt A. Brimberry
entrepreneurs, their company is their life’s work, and
the sale of their business has dramatic implications for both
their financial and personal lives. By the time the sale is
finalized, big decisions have already been made. Advisors
may have been involved in analyzing different strategies,
such as a cash sale, an installment sale, or a combination
of the two with an employment contract attached. But after
the sale, new issues emerge and another planning process begins.
must be flexible enough to allow for tax laws that can change
annually; even the best-laid plans must be updated frequently.
It’s also an opportunity to establish a new approach
to financial life that will not only help the former business
owners manage their assets effectively and productively,
but also ease the transition through what can be a difficult
and emotional time. In addition to myriad financial concerns,
subtle but important intangibles lurk beneath the surface.
Entrepreneurs may be superb at running their companies but
lack the skills and experience to manage a large estate.
When multiple generations of family members are involved,
there can be surprises, unfulfilled expectations, and strong
emotions. Family members’ financial needs or personal
goals may have been different from what the business owner
envisioned. Communication and education are critical issues.
and personal issues must be carefully balanced. Advisors
involved in the sale may be unable to deal with the seller’s
long-term financial needs or how the sale will affect the
client’s retirement plan or estate plan.
following steps will help an advisor guide clients after
key objectives and issues. Discuss in detail
key issues that the sellers must consider as they plan their
financial lives after the sale. These may include the need
to develop strategies for future income and expenses, and
the implications of any options or equity they may have
retained with their company, as well as the need to revisit
their investment, tax, trust, retirement, and estate planning
with all parties. Establish a system for communicating
with everyone involved. When working with a large, extended
family, it is especially important to make sure information
is communicated in a consistent, evenhanded way, and that
no one is unintentionally left out. An effective flow of
communication is vitally important.
information. Soon after the sale of the business,
take stock of all of the client’s assets and liabilities.
Drill down into issues such as the client’s liquidity
needs, and document financial as well as personal details
about family members involved in the estate. This information
is needed in order to facilitate the client’s investment
and tax strategies and other financial matters in the future,
and to facilitate communications with family members.
information to gather includes the following:
Background on family members. Family needs and
goals drive the investment and estate planning process.
Identify each family member’s role in the business,
assess his business and financial knowledge, and learn
about his aspirations and objectives. Gather information
on any family member working in the business as well as
those not actively involved in daily business; she may
have relied on special dividends from the company, used
company stock as collateral for loans, or had some other
interest in the company.
Income needs. The family’s income needs
will change after the sale. His income may drop when he
no longer receives a salary from the company, and the
value of his assets may not generate enough cash to match
his prior income.
Any attractive benefits and perks previously offered by
the company will disappear, implying a change in lifestyle.
Autos, health and life insurance, retirement plans, club
dues, and other business benefits may or may not continue,
depending on how the sale was structured.
Employment contracts. If any family members retained
employment contracts with the buyer, the terms of those
contracts must be documented. Sellers that continue to
work under contract for the sold business should invest
their assets quickly and move on.
Trust structures. The seller’s family may
have used trusts and other sophisticated planning vehicles
in place before the sale of the business. If so, these
entities probably owned stock in the family business and
received a share of the proceeds. These entities must
be carefully reevaluated in light of the seller’s
newfound wealth and aspirations.
Special Purpose Accounts
after the sale of a business, as long-term strategic decisions
are still being evaluated, it can be helpful to recommend
that sellers establish investment accounts for managing
the transition. A core account should hold the principal
from the seller’s business and the bulk of the net
worth. A tax reserve account is strictly for taxes that
may be payable at year-end following the sale. Payment would
be made on April 15 or in quarterly installments during
the year following the sale. This account should be invested
conservatively in liquid investments. Finally,
a personal account should be limited to a modest proportion,
such as 10%, of the value of the business sales transaction.
If sellers choose to control how this account is invested,
that may provide an outlet for channeling some of the control
they lost over their assets after selling the business,
without putting core assets at risk.
windfall that often accompanies the sale of a business may
be the appropriate occasion for considering a new approach
to investment management. Ideally, the investment management
firm should provide sophisticated, independent investment
advice, and also have the in-house trust, estate, and tax
expertise necessary for managing a large portfolio and for
creating a comprehensive plan for the disposition of its
allocation decisions have enormous impact on the volatility
of a portfolio and the income it generates. Guidelines should
be developed that clearly delineate the business owner’s
investment objectives, risk tolerance, asset allocation
ranges, maximum holding in a single name, liquidity needs,
and other areas. Clear benchmarks should be identified and
tracked. Diversification is critical, both by asset type
(equity, fixed income, and cash equivalents; large-cap;
mid-cap; small-cap; domestic versus international) and investment
style (growth versus value).
addition, taxpayers with substantial assets increasingly
face alternative minimum tax issues. To avoid such pitfalls,
fixed income allocations should be actively managed by an
investment counselor with dedicated specialists, not with
a buy-and-hold strategy.
with more than one investment manager may want to consider
having one advisor serve as master custodian, which can
simplify recordkeeping and analysis of a wide range of information.
Many believe that a master custodian is the best way to
simplify tax reporting and tracking cost-basis history.
A master custodian also has the ability to configure different
accounts managed by multiple investment counselors into
a master account for analysis purposes.
individual, working in conjunction with other family members,
must determine the financial goals for future generations.
For example, how much wealth should be passed on to whom,
and when? Should wealth be passed outright, or should senior
family members retain some control? How much should be given
to charity? Should charitable gifts be outright, or should
the family retain control, such as through a family foundation?
on the answers, assets may need to be organized into tax-efficient
structures such as trusts, charitable foundations, or partnerships.
Long-established trusts and partnerships will need to be
reviewed. In addition, individuals will need a plan for
managing these entities and investing their holdings. In
many instances, a specialized investment plan will be necessary,
with assets invested on behalf of grandchildren handled
differently than those used to meet current cash flow needs.
the big familial decisions are made, the next step is to
determine how to implement them. Investment and tax considerations
are secondary but still important. Estate planning typically
focuses on making gifts now and paying gift taxes up front
before the asset has appreciated substantially. This strategy
is sound as long as the asset’s appreciation is sufficiently
substantial. The Bush administration’s tax proposals,
however, would permanently eliminate estate taxes while
retaining gift taxes. If this happens, accelerating gift
taxes, which could be avoided altogether at death, would
no longer be a viable strategy. The motivation for retaining
the gift tax is actually income-tax oriented: to prevent
people from shifting assets (via gifts) to low-income taxpayers.
traditional estate planning is on hold while the transfer
tax system remains in flux. This does not mean that the
newly bought-out family members should do nothing; they
should merely avoid transfers that incur gift taxes.
deciding what specific trusts or other structures to fund,
taxpayers should consider a threshold question: Should they
create a centralized family entity such as a family limited
partnership (FLP) or limited liability company? Many people
who sell a business often hesitate to use their newfound
cash or marketable securities for family gifts or transfers.
Transferring some of that cash or stock to a centralized
family entity enables an individual to retain control over
family finances through the entity and carefully designate
interests in the entity. Recent court cases, however, such
as Strangi v. IRS (TC-Memo 2003-145), introduce
a note of caution: In exercising retained powers, the protocols
of the structure chosen must be observed, or the assets
may be subjected to unnecessary estate taxes.
the structure is in place, an individual can begin making
gifts when appropriate from a tax standpoint and desirable
from a personal standpoint. Currently, no-tax or low–gift
tax techniques are popular, including grantor retained annuity
trusts (GRAT), charitable lead annuity trusts (CLAT), special
needs trusts, and generation-skipping trusts (GST). Major
charitable gifts are always possible, such as the funding
of a private foundation. Although low interest rates make
charitable remainder trusts (CRT) less attractive, they
rights of minority stockholders must be carefully assessed
when selling a closely held family business, and the relationship
with these stockholders must be managed accordingly. Closely
held family businesses commonly have ownership concentrated
in one or two people, often the chairman or CEO. Minority
interests, however, may be held by many more people, such
as spouses, siblings, or nieces or nephews of the principal
the business is sold, minority stockholders may be in position
to exercise more influence and power. For example, the need
to obtain the required stockholder consent to a sale may
empower a minority group after the sale. In addition, dissident
stockholders may have rights under state law that complicate
the structuring of a merger or sale transaction and its
R. Ward, CPA, is senior vice president and head of
the tax department; S. Mackintosh Pulsifer is
a senior vice president and member of the investment policy
committee; and Kurt A. Brimberry is a senior
vice president responsible for new client relationships in
the western United States; all with Fiduciary Trust Company