As a small business owner myself, I understand why my business clients are sometimes hyper-focused on current operations to the exclusion of other business concerns. The customers or clients to be served today are understandably the priority.
However, business owners can’t afford NOT to have succession plans, both for voluntary exits (like retirement, cashing out, or passing the baton to a younger generation) and involuntary exits (like what happens if the business owner becomes disabled or dies). One-owner businesses and multi-owner businesses have different challenges to plan for.
For a one-owner business, the plan should always include a will and a durable power of attorney, and may include life insurance and/or disability insurance. A durable power of attorney gives someone else legal authority to make business decisions or run the business if illness or injury makes you, the owner, unable to do so. If you have a sole proprietorship, the business literally dies when you do. The assets of the business will pass to whomever inherits from you by your will or by the intestate succession statute, and business debts will become your estate’s debts. For the business to have legal continuity after your death, you’ll want to make your business a corporation or limited liability company (LLC). Your interest in the corporation or LLC passes to heirs under your will or under the intestate succession statute, but the corporation or LLC continues to exist. If a sole owner of any type of entity dies without a will, the business or its assets may get divided among a number of heirs; this causes practical problems if not all the heirs are interested or talented in running the business.
For multi-owner businesses, failure to plan for one owner’s death may mean that the remaining owners get to be in business with the deceased person’s spouse, parent, child, or other relatives. Even if the heir is a nice person, he/she may know nothing about running this business. A properly prepared buy-out agreement entered by all the owners prevents this problem. It allows the business to buy out the estate of the deceased owner, keeping control in the business, but giving the estate cash instead. Alternatively, an agreement can provide for an owner to pass his/her interest in the business on to a spouse or children by a will, but converting the ownership interest to a non-voting interest. The heirs will still receive dividends if the business is profitable, but they won’t have a say in management. Life insurance and disability insurance can help implement these types of agreements.
Lawyers and accountants often take a team approach to helping clients who want to sell their business, or to transition over time to a younger generation or to key employees. Accountants help with valuing the business and tax planning. Lawyers help make sure clients have thought through the necessary details, and turn the plan into an enforceable written agreement. It is important to sellers that they be paid the agreed-upon amount. Special planning is required if the seller wants to do seller-financing, which obviously carries more risk of non-payment than being paid in full at closing. Tools for sellers offering financing include personal guarantees of payment by the buyer and getting adequate security for the balance owed. Lawyers and accountants tailor their advice to each seller’s situation, because each one is unique.
Kim K. Steffan is an attorney with Steffan & Associates, P.C. in Hillsborough, NC. She can be reached at 919-732-7300 or email@example.com.
This article was last updated in January 2020.