For Private Company Owners: Why Your Business Plan Needs Your Estate Plan

Founders or controlling owners of private companies own “private equity” which often constitutes the most valuable asset on their personal balance sheet. Most companies have some sort of “business plan” and may even have a “succession” or “exit” plan. But, perhaps more than anyone else, private company owners need a personal “estate plan” that both (i) addresses unanticipated events like death or disability, and (ii) keeps the owner’s “exit” options open. Here’s why, and some thoughts on how.

1. Company Value is the First Priority. If company value is not built and preserved, there is little reason for estate or succession planning. Owner estate and business succession plans should be tailored around the company’s business and strategic planning. The owners’ net worth and family, and the company’s employees, customers, suppliers and communities, depend on company value preservation and growth, net of income, gift and estate taxes.

2. Private Company Equity Requires Special Attention. Private company equity is a less liquid asset than marketable securities. IRS estate tax return filing statistics reveal that the vast majority of people who file an estate tax return and/or pay estate taxes on death own a closely-held business interest. This is a testament to two things: (a) the importance of private businesses to our economy and personal wealth building, and (b) the fact that Uncle Sam only accepts cash to pay estate taxes, not private company stock or LLC interests. Meaning, even if, or especially if, a company is not for sale, the owners should take steps to provide for continued company management and the payment of estate taxes (either by reducing the value of the business in the owner’s estate or providing liquidity from other sources such as life insurance) upon an owners’ death. Of course, continued company management also requires a plan for an owner’s disability.

3. Business Versus Personal Priorities. Again, if company value is not preserved, the owners’ personal financial and estate planning objectives will not be achieved. So, both business and owner estate planning should anticipate the unexpected – the death or disability of the owner. By doing so, including through tax-reducing estate planning transfers and provision for continued company management, a “forced sale” or liquidation of the company at a reduced value can be avoided or at least delayed until the business can be capitalized or sold at a fair price.

4. A Balanced, Tailored Approach to the Owner’s Estate Plan. Some, albeit relatively few, companies are structured to pass ownership to the owners’ family. If this is the plan, the focus of the estate plan should be not only on transfers that minimize gift and future estate taxes, but on business entity and trust vehicles that either align or separate company equity ownership and control with or from company management. Often, an irrevocable trust funded with life insurance and gifts of perhaps non-voting stock or LLC interests may address these goals. But the vehicles should be carefully considered and designed to allow the owners and their successors to keep all options, including a company sale, on the table. There is no crystal ball.

5. Owner Estate Planning with the Company in Mind.

a. Minimum Estate Planning. Regardless of the owners’ or company’s succession or exit plan, private company owners should at least have wills and trusts, and perhaps make some gifts of equity to family (or charity), so as to take advantage of the estate tax credit (to become a little over $13 million dollars, or $26 million with one’s spouse, in 2023) and ability to reduce future estate taxes via annual exclusion gifts to family or in trust for family (annual exclusion to become $17,000 in 2023, so $26,000 per married couple, per gift recipient, so with valuation discounts this presents a meaningful opportunity to remove future estate taxed-value from the owner’s estate without his or her giving up control or income). So, regardless of the situation, private company owners should do this “minimum” planning to reduce the future liquidity drain from estate taxes levied on company value. The will and revocable or “living” trust of a private company owner should always include provisions authorizing the right individuals to continue managing the business and, if advisable, capitalizing or selling the business. Executor and trustee selection (whether a family member, a bank or trust company, or some combination) can become critical.

b. Fancier Estate Planning. For company owners whose private company equity value exceeds or will likely exceed their estate tax credits, using different legal entities like family LLCs or partnerships and irrevocable (often “grantor) trusts can allow for much larger and faster removal of future, illiquid estate-taxable value from the owner’s estate, and without the owner giving up control or income. Classic “fancy” planning often includes grantor retained income trusts or “GRATs” or installment sales of company shares to a grantor trust for a promissory note (allowing the owner to remove a larger value and future appreciation from his or her estate). If done sufficiently prior to any company sale, charitable remainder trust (“CRT”) and other chartable vehicles may also be a good option. However, especially given how frequently the tax laws change, these “fancier” estate planning techniques should be considered and structured in a manner such that the estate planning “tail” does not wag the owner financial, retirement and business planning “dogs”. Meaning, some fancier planning is usually a good thing, but it should be balanced in a way that the owner can keep his or her future options open. As a practicable matter, life insurance can go a long way to helping fund estate taxes, so it is often more than worth the premium cost, especially given that it can simplify the estate planning.

Take Aways. Private company ownership or equity usually represents the lion’s share of the owner’s estate and is an illiquid asset. The owner’s estate plan should take advantage of all tax savings opportunities and, perhaps more important, address the management of the company in the event of the owner’s unexpected death or disability prior to a company or owner “exit” from the business. As with any business plan or succession plan, an estate plan should be as flexible as possible and designed to keep the owners’, and the company’s, strategic options open. All company stakeholders will view the company as more valuable if the owners have adequate contingency plans in place. These stakeholders include not only the owner’s family, but the company’s employees, customers and suppliers, and the communities and charitable causes it may serve, as well. If the owners focus on company planning, first, and then provide for unexpected events, all stakeholders will be better off. If the owners choose to sell the company while they are still around to manage it, many of the tax and estate planning challenges which are unique to closely-held business ownership will become much easier to manage.