Business succession for LGBT businessowners
By Angela Giampolo
As same-sex marriage is not legal in most states, proper estate planning is particularly important for the LGBT community. Even in states where it is legal, same-sex couples are not afforded the privileges and benefits of federal law. With that said, even those with estate plans often don’t take into consideration ownership interests in companies. Business succession planning is crucial to ensure the successful transfer of your company and/or to properly provide for your life partner, and yet few businessowners plan for the eventual transfer of their business interests.
A common planning strategy for those who have ownership interest in a business is for the owners to enter into a buy-sell agreement, often referred to as a “business will.” A buy-sell agreement is a legally binding contract that can be used with all entity types. It stipulates that upon a triggering event, such as the death, disability, retirement or withdrawal of a principal, his or her share of the business must be sold to the remaining partners or shareholders, or to the business itself. The remaining partners, shareholders or the business agrees to purchase the portion of the business owned by the deceased, retired, disabled or withdrawing principal.
If an LGBT businessowner dies without a buy-sell agreement or an estate plan that considers the business, the assets will go to the deceased’s next of kin instead of the surviving same-sex partner. This is problematic for many reasons. First, the business interest will likely pass to someone who has no knowledge, skill or, worse, no interest in the business. A more common problem: Family members who do not approve of the same-sex relationship may refuse to cooperate or support the surviving same-sex partner. This is particularly problematic if the same-sex couple had co-ownership of a business.
The buy-sell agreement should specify certain key provisions and be drafted by an attorney in collaboration with a financial planner and/or accountant familiar with the business and its stakeholders. It is critical that the buy-sell agreement set out the intent of the parties in a manner that is legal in your state.
The following are key provisions of a buy-sell agreement: — Parties: Who will be selling and who will be buying? — Mandatory: The buy-sell agreement must state that it is mandatory for the seller to sell and for the buyer to buy the business interest. — What is to be purchased? This differs with each business type. For instance, it could be partnership interests, membership interests, stock or, for a sole proprietor, the business’ assets. — Price: How much does the owner or the owner’s estate get for his/her business interest and how much does the buyer have to pay for this business interest? — Timing of the sale: For all parties involved, timing of the sale is crucial. — Law: Which state law(s) will apply? — Modifications to the agreement: A buy-sell agreement usually exists for a number of years and therefore a process to update coverage must be established. — Termination of the agreement: There are valid reasons to terminate a buy-sell agreement, thus an exit provision is essential.
Funding a buy-sell agreement is just as important, if not more, than drafting the agreement itself. Too often, business owners start the process of drafting a buy-sell agreement but fail to plan for how to fund the business-interest purchase when a triggering event occurs. The following are three common ways to fund a buy-sell agreement: — Pay cash: Requires large sums of liquid assets that may not be readily available at the time of an unforeseen event. A remaining owner may have to liquidate valuable personal or business assets below market value in order to raise cash quickly. — Borrow the money: The loss of an owner or key person may impair the credit rating of the business and its ability to borrow. Moreover, the principal plus interest must be repaid, which can put a tremendous strain on the business budget. — Purchase life insurance: For most businesses, this is the most favorable option because money is available from the policy cash values or death benefit for the purchase of the business interests.
Advantages of buy-sell agreements to the owner and his/her heirs: — Helps avoid family disagreements regarding the value of a business, as well as the legal and emotional costs of a valuation dispute. — Specified proceeds can provide the decedent’s estate with funds to help meet estate obligations and reduce or eliminate the need to liquidate other estate assets. — Helps establish the value of the business for federal estate tax purposes and may, therefore, avoid costly and aggravating IRS litigation. — The heirs’ economic futures will no longer be tied to the fate of the business and they will be free from worry about the financial success of the business.
Advantages of a buy-sell agreement to the business and/or surviving principals: — Ensures a smooth and complete transition of management and consolidation of business control in the hands of the agreed-upon group. — The business and/or the surviving principal(s) are assured of the cash necessary to purchase the decedent’s interest. — Prevents potential impairment of the business’ credit line. — A properly drawn buy-sell agreement can protect a corporation’s subchapter S status by avoiding inadvertent conversion to C corporation status. — Protects the business against inactive, unqualified and/or potentially dissident heirs in the management of the business.
You put maximum effort into establishing and running your business. For the protection of yourself, your family and your business, it makes sense to reduce the risk of loss at the death, retirement or disability of a key person. Business succession planning provides that protection.