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Estate Planning for Small Business Owners

Written by our preferred partner: Ryan Knight, Attorney at Law.

Success doesn’t happen without a well-executed plan, and neither does succession.

Small business owners who manage to keep their business alive for decades have the opportunity to leave lasting impact, remarkable wealth—and even generational legacy.

Why Small Business Succession Planning is Vital

According to the U.S. Census Bureau, less than 12% of small businesses have been around 26 years or longer.1 Business owners who’ve made it that far have certainly overcome some big hurdles—but the truth is they may not be alive to experience the biggest one their business will face.

A 2013 study by Sascha Becker and Hans Hvide found that when a business founder dies, it takes more than an emotional toll on the organization. The study found that companies have a 20% lower survival rate two years after their founder’s death, compared to similar firms where the entrepreneur is still alive. Additionally, sales drop by 60%.

Even though the most recent data is now nine years old, there’s reason to believe it’s similar today. I believe it because—according to the Association for Talent Development—only 35% of organizations have a formalized succession planning process.2

If a business owner dies and there’s no strategy in place, their survivors are left with no direction. Just imagine what would happen if you were tragically taken tomorrow. Aside from the obvious grief experienced by your family and team, leaving them to handle your business affairs without your vision could completely overwhelm them. That’s not just bad for business, it’s rough for everyone involved. Those left behind must grapple with everything from losing the owner’s knowledge, to power struggles within the organization, to customer confusion and more.

That’s why transparent communication with your family and business partner(s) is crucial. You need to create an estate plan.

A Good Example of Family Business Succession Planning

We can look to the Walton family as an example of family business succession planning done right. They are, of course, the owners of Walmart—which began as a small, family business in Arkansas. Today, Walmart is the largest business in the world in terms of revenue—earning more than $600 billion in 2022.3 In 1992, founder Sam Walton passed away and left his retail empire in the hands of seven heirs.

Today, the Walton family business outranks Amazon, Apple, Microsoft, and Warren Buffett’s Berkshire Hathaway in revenue. 4

Sam Walton talked about succession planning in his book, “Sam Walton: Made in America.” He wanted to keep the business alive through many generations. To help ensure that, his plan stated that his wife and children must always control at least 38 percent of the Walmart stock. He wrote, “Some families sell their stock off a little at a time to live high and then—boom—somebody takes them over, and it all goes down the drain.”

He also began transitioning key roles and responsibilities over to his children years before his death. Walton’s succession plan was so well-prepared that Kurt Barnard—publisher of Barnard’s Retailing Report and a long-time friend of Walton—made the bold claim, “Virtually nothing about the company will change because of his death.”

Even if you’re not trying to be the next Sam Walton, taking wise steps now to ensure a smooth changeover later is a real gift to your successors—and that’s a big part of what estate planning is all about.

By the way, if you’re starting to think about where you’ll get income when you step down from the business, check out Beacon’s free guide on Building Tax-Free Income in Retirement. You’ll learn about life insurance strategies that can provide a way for you to earn tax-free income in the future.

Estate Planning for Small Business Owners: Who Will You Trust With Your Business?

We’d all like to think that familial love and respect would bring everyone together to do what’s best for the future of the business. However, differing personalities and opinions—and maybe even feelings of greed or perceptions of favoritism—can drive an otherwise well-run business right off the tracks.

Even if your family is all puppies and rainbows, some members may have no desire to carry on the family business; while others are inspired to follow in your footsteps. Whatever the case may be, it’s imperative to discuss what that means for their individual futures, openly and honestly.

family business succession planning

For example, when it comes to those who want to work in—and maybe one day manage some aspect of—the business, you’ll need to consider:

    1. Do they have the hunger and/or passion for the business that you do?*
    2. Is there a specific type of education or degree they’ll need to pursue?
    3. What role can they adopt now to best prepare them for an executive role later?
    4. After you answer the first three questions, will they be the best choice to fill those shoes?
    5. Then, if the answer to question #4 is yes, you will want to work with an estate planning attorney to prepare and document a succession plan which sets out the process of transitioning your successor into their newly acquired role after you are gone.

*Question #1 is not to insinuate they must do everything exactly the way you would do it. If your successor is passionate about the business, they may find ways to help it grow that don’t come naturally to you. Your children or business partners may have areas of expertise—like marketing, technology, or other efficiencies—that differ from yours.

Now, if more than one person is interested and qualified to run your business, you’ll need to outline the transfer that way in your succession plan. This will allow for a smooth transition to multiple successors with minimal conflict.

Part of estate planning for small business owners is that no matter who you choose to transfer business ownership to, you’ll need to decide if it’s a gift or a sale.

Many small business owners prefer their successor to have some financial stake in the success of the company by buying at least part of their ownership interest. This could be a simple lump sum payment, or a buyout that happens over the course of several years. (Bonus: Transferring shares of the business in smaller increments each year could minimize your tax liability.) Or, the successor could even work for the company at a reduced salary to earn their ownership in the business.

I highly recommend working with an experienced attorney and an accountant to help you go through your options, choose the best fit for your situation, and clearly outline this in your estate plan documents.

For Those Who Don’t Want to Be Your Successor

Those who won’t be working in the business may be involved in other ways. For them, you’ll want to consider:

    1. Would it make sense to give them ownership stake, without decision-making responsibility?
    2. Or, do they want to be involved in decisions, and if so, is there a seat for them on the board?
    3. For those who want no involvement in the business, you can earmark a specific dollar amount to gift them within your estate plan. You could leave an amount that is equal value to stock in the business, and update this dollar amount every few years to match the business’s current value.

As you can imagine, emotions can run high during these conversations. Board meetings and family talks are great, but it may help to bring a business adviser or legal consultant as an unbiased third party to these discussions.

Estate Planning Strategies for Small Business Owners

Before you get to live your dream retirement lifestyle, let’s make sure all your ducks are in a row. Here are some common strategies to include in your estate plan as a small business owner.

Buy-Sell Agreements

A buy-sell agreement is a contract between partners or shareholders that outlines a plan in case one of the owners passes away or becomes incapacitated.

This agreement includes a sale price for the business and/or the owner’s share of the business. In this agreement the owner has a legal say in whether they want their partners to buy out their share, and even if they want specific people blocked from the business. Making sure the business price is already established in a buy-sell agreement gives everyone the peace of mind that they’re receiving a fair price.

Life Insurance Within Estate Planning for Family Business

It’s a common practice for each partner in the business to take out a life insurance policy and name the other owners as beneficiaries. This strategy gives the survivors tax-free funds to purchase the deceased’s shares of the business from the estate.

Minimizing Taxes in Transferring a Family Business

You may have worked your whole life to make this business a success, but that doesn’t mean Uncle Sam won’t try to get his “fair share”—in many cases, 35-50% of the business value—when you kick the bucket. Leaving your family with that kind of tax bill could leave them with no choice but to sell the business.

But there are a few legal ways to protect what you’ve built. Work with an experienced estate attorney and small business accountant to discuss your options.

Avoid Potential Conflict with Clear Direction

If you’re a small business owner reading this, I don’t need to school you on the importance of clear communication. You’ve learned that in your business a hundred different ways.

Here are just a few materials you should create to help your team after you’re gone:

  • How your death should be communicated to clients and customers
  • Training for your potential successor
  • A document outlining key information, bank accounts, online account passwords, and debts
  • A well-thought-out, comprehensive estate plan

Having these things in place will help prevent chaos and conflict if you pass suddenly or are unable to carry on the business yourself.

Sole Proprietorship

When you’re a sole proprietor, your business isn’t a separate entity. Basically, your business is you! Planning for the future is more important than ever, because there’s no team members to fall back on.

If your hope is for someone to take over the business—or sell it—once you’re gone, you’ll need to communicate that to any key players well in advance. Try to make it as smooth for them as possible. Then, get it documented within your estate plan.

Let your successor know if you have business debt. They will be able to use your personal assets to pay it off.

It’s responsible to keep a list of key documents, financial accounts, email account passwords and anything else someone taking over after your death would need to communicate with clients and tie up loose ends. Make a point person aware of where that list will be if they need it.

Create a Clear Estate Plan for Your Small Business

The key to successful estate planning for small business owners is communication and documentation. This is by far the best way you can mitigate complicated family or partner dynamics and prevent future arguments.

Small business or family business estate planning is a process that will take several months, minimum. When you factor in family meetings, professional consultations, and the time it takes to mull over decisions of this magnitude (on top of actually running your business), all of this could take a year or more.

The sooner you bring your family into the estate planning process, the better. After all, family business succession planning is for your peace of mind—and their future.

From Beacon Capital Management:

Ryan Knight, Attorney at Law owns Knight Legal and is our preferred partner. Beacon Capital Management, LLC is not affiliated with Knight Legal, but his office is conveniently located with our headquarters in Franklin, Tennessee.

If you’re ready to talk about your legacy, your small business, your estate planning options, or your overall financial plan—give our firm a call. Beacon Capital Management is a full-service wealth management firm that takes a comprehensive approach to financial planning. We want to help you cover the most important areas of your life.