By Richard M. Segal
April 29, 2010
It struck me on my last commercial flight just how much time the attendants spend explaining an exit strategy should one be needed. We have all been programmed to expect that emergency presentation on every flight. You probably think you could repeat the pitch yourself. Where is that closest exit? It may be behind you. You should know all of the nearest exits - just in case.
Have you noticed that since we began picking our own seats, you can’t pick an exit row seat until just before the flight? Some airlines charge extra for the additional leg room. Once you are seated, an attendant asks if you are capable of performing the door removal should it become necessary. It is interesting how they protect those exit doors.
In a public building there are strict code requirements to identify and “maintain” a building exit (egress). If you aren’t familiar with these codes, you may not know that the red exit signs aren’t the only requirement - not even close - they are only the beginning. In multi-story buildings the fire codes require the capture of elevators and the HVAC system goes into an emergency mode to purge and pressurize the building egress (stairs, hallways and entrances) to minimize smoke and fire. These measures add thousands upon thousands of dollars to the cost of construction and are required to be checked annually for performance - often with a fire department representative present.
All this preparation for events that are highly unlikely to occur.
If you are a family business owner, one thing is for certain - you will exit that business. Hopefully your exit will be by choice and well planned. Unfortunately, most family business owners know far more about exiting a airplane or a building than they do about the mandatory exit from their business. How sad is that?
There is one more exit that is mandatory-¦and that is from this life. Dying is not an option, so an estate plan makes sense. Often, a business succession exit strategy is combined with an estate plan. Unlike our plane or building examples, we do know that the exit will take place, but we often don’t know how or when.
You should always protect your business and your family from the catastrophic emergencies of premature death or disability. This can be done with a well drafted and funded Buy/Sell Agreement. Funding is normally accomplished with insurance allowing the leveraging of the costs.
But let’s face it - there is a reason it is called premature death and that’s because it is highly unlikely – just like the building fire or plane crash. While disability is more likely than premature death, it is still a highly unlikely consequence that would prevent you from operating your business over a long period of time. It is far more probable that your family business ownership will transfer due to a succession plan, or an estate plan. Do you have a current version of each?
Most business owners will live to life expectancy and remain relatively healthy during their working years. That being said you have limited options on how to transfer your business:
Sell to an outsider(s)
Sell to employees
Sell to family
Gift to family (or others)
Transfer at death (hopefully through your estate plan and not probate)
I am only considering “healthy” transfers and omitting liquidation or bankruptcy from our discussion. Let’s define “healthy transfers” as being those of choice, planned and executed. Any other transfer would have to be considered unhealthy if not tragic. We have all heard the awful stories of family enterprises ending due to a lack of, or poor, planning. You need to take action to avoid that tragedy.
All too often I have seen plans put into place that will end in heartbreak. One common example is to wait for the senior generation’s last death before transferring through an estate plan. This might be great for the seniors, it might even offer sound tax planning, but it will be tragic for the juniors who are now in their 60’s or 70’s and looking forward to their own retirement. The grandchildren are in their 40’s or 50’s already! Let’s coin this “the way-too-late” transfer.
Another transfer of sending checks to the senior retirement location for currently unearned compensation is also prone to catastrophe. Over time this can strip the company of needed capital making future success unlikely. This transfer might be called the “double-dip.” Business capital isn’t a good source for retirement funding if the business is to survive. Those checks need to be restructured to be some combination of deferred compensation, stock purchase, non-compete agreement and/or consulting arrangements. Your tax advisors can help you structure a transfer tax efficiently without the double-dip.
One more disaster is just dividing the business equally between your heirs regardless of their personal situations, employment positions and age. For some reason families think that equal is fair and it isn’t so. Call this “fair vs. equal.” It is a set up for the future owners to go to war.
Probably no exit strategy is perfect. However, failure to put some sound planning in place is a recipe for a tragedy of Shakespearean proportions. Just like the airlines or building codes, you should have a plan and review it regularly - especially if life brings changes to the situation or the cast of characters.
Don’t plan for “way-too-late,” the “double-dip,” or “fair vs. equal” strategies. Now that you have been forewarned, take a minute and study the emergency exit card in the seat in front of you, or the building egress-¦it might just save your life and your family business.
Richard Segal is the chair of the Family Business Council, a membership organization of family owned businesses. He can be reached at [email protected] or visit www.segalconsulting.biz
