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Steps for Successful Succession Planning

by Patrick F. McNally, Blackman Kallick

August-September, 2012
Youíve put a lot of effort into starting and growing your business and it has provided for you and your family throughout your career. But how will the business provide for you after you retire? It is not an easy question to answer. Behind that question are many others: When will I retire? What do I want out of retirement? What does my spouse want? How much money do I need for retirement? Is my business worth enough to make me financially secure in retirement? Is the right management in place to run my business? Will my children carry on my business or will I sell? What about income, payroll and estate taxes? Where do I even start?

The answers to these questions are a jumble of personal, family, financial and business decisions. The analysis can be complex and since no one can predict the future, the decisions must be made in the face of uncertainty. It is little wonder that faced with this seemingly overwhelming task, many business owners continually put off succession planning. But the sooner you start, the more flexibility and options you will have. Understanding the questions you need to ask yourself, where to find the answers and where to start can make the job of succession planning a lot less overwhelming.

Successful succession planning starts with your goals. Know what you want and what you will do in retirement. Many business owners have looked forward to retirement only to find themselves unhappy six months after retiring. Do you want to retire or is your work your passion? Discuss your plans with your spouse. If you donít plan together, you might find yourself at odds after you retire. More than one business owner has retired at 65 only to be divorced by 70.

Once you identify your goals for retirement, you need to determine your financial resources. For most business owners, their business makes up the bulk of their net worth Ė yet they donít know what it is worth! Get a valuation of your business now. If the business is worth less than you think, you will have more time to react. In addition to telling you how much your business is worth, a business valuation can highlight steps you can take to increase the value of your business. If the business is worth more than you think, you might retire earlier or decide that you can redeploy some of your assets outside the business today. A business valuation also can be used to implement tax-saving strategies.

Valuing a business is a complex undertaking that requires training, experience and access to data sources that most business owners do not have. Donít try to take shortcuts. Hire a professional who specializes in valuing businesses.

You also need to determine how much you need for the retirement you have planned. This is another complex undertaking. It is impacted by many things, including the economy, investment markets, yours and your spouseís health and life expectancy and what you want out of retirement. Again, donít take shortcuts. Hire a professional experienced in financial planning. The sooner you do the better. If it looks like you will not have sufficient assets for the retirement you want based on your current assets and goals, you will have more time to plan. Perhaps you can improve the value of your business. Maybe you can delay your retirement or change your goals for retirement. If, on the other hand, you discover that you are better positioned financially than you thought, you might move up your retirement or decide you can afford more in retirement than you thought. For example, maybe a second home is an option. The sooner you know, the more time you have to react.

You also need to talk to the rest of your family. You might be planning for your son to take over the business, but have you asked him if he wants to run the business? I have worked with business owners who have held on to a business because they thought their children wanted to take over, only to find that they could have retired sooner because their children did not want to run the business.

If your child does want to run the business, does he have the necessary skills and drive to do it? This is especially important if you will be looking to the business as a continuing stream of income in your retirement. I have seen retirements ruined and family bonds strained when ill-prepared offspring have taken over the family business. Be sure your children want to be responsible for your retirement and that they have what it takes. Ask!

Taxes also can be an important driver in succession planning. The current law allows a $5,000,000 lifetime gift exemption per person and a $5,000,000 estate exemption per person, less the amount of the $5,000,000 lifetime exemption used. Therefore, a husband and wife can currently transfer up to $10,000,000 to their children without incurring an estate or gift tax. However, the current law expires December 31, 2012. As the law is currently written, for years 2013 and beyond, the lifetime gift exemption drops to $1,000,000 per person and the lifetime estate tax exemption drops to $1,000,000 per person. There is a good chance the law will be rewritten at some point in the future, but no one knows what that law will look like. The limits might very well be substantially lower than they are today.

There is currently an opportunity to transfer assets and avoid estate and gift taxes, but that opportunity could go away when the law changes. Unfortunately, where proper succession planning is not undertaken, businesses must sometimes be sold in order to pay estate taxes when an owner dies, taking the business out of the family. Sometimes, business owners do not undertake succession planning out of fear of losing control of the business or not having enough assets for retirement. However, proper succession planning can allow you to maintain control of the business while reducing your exposure to estate and gift taxes. Not only will proper estate planning reduce the amount of taxes paid, but it will increase the likelihood of the business staying in the family for future generations.

Succession planning seems at first like a daunting task. However, when broken down into the right-sized steps, it is not quite as overwhelming. A professional experienced in succession planning can make the task easier and be certain you are maximizing your retirement. You might even find that you like planning how you and your family will enjoy the wealth your business has created!

Patrick F. McNally, MBA, CPA, ABV, CFF is partner in charge, corporate finance consulting, for Blackman Kallick in Chicago. Contact him at 312.980.2934 or via email at pmcnally@BlackmanKallick.com.