AAL

SAVING THE FAMILY BUSINESS LEGACY

By Erin Hollis, AVA

Before 1960, 60 percent of family businesses were passed to a second generation and more than 20 percent were passed to a third. Those days of leaving behind a successful business legacy are apparently long gone. Since 1960, the percentage of family owned business passing to the second generation has decreased to 33 percent. The third generation looks very grim as well - only 15 percent of family-owned businesses successfully pass.

Why are these family business legacies dying? As you might guess, certain economic and demographic factors may occur that are beyond a businesses’ and family’s control. Inter- family dynamics also may affect the life of a family-owned business. However, one of the main reasons a business legacy dies is due to the imposition of taxes. Without proper planning, the burden of estate and gift taxes poses a serious threat to family businesses. Taxpayers who seek the professional advice and services of estate planners, business appraisers and other accredited professionals buffer themselves against unplanned for and unnecessary taxes. By using proper business entity structuring, maintaining a current well-structured buy-sell agreement (along with regular business valuations), taxpayers avoid the Federal government being effectively "granted" senior partner status in the business when it passes from one generation to the next.

Family-owned businesses are under particular heightened scrutiny by the IRS. Under Section 2703 of the Treasury Regulations, any buy-sell agreement, restriction or other similar factor relating to the right to use or sell property (or a business) will be ignored for estate, gift and generation-skipping tax purposes unless the agreement meets all three of the following tests: 1) It is a bona fide business arrangement; 2) It must not be a means of transferring property to a family member for less than full and adequate consideration; and 3) Its terms must be on the premise of an arm’s length transaction.