Sheri MacMillan is the Founder of MacMillan Estate Planning, where she currently acts as the President and CEO. When she started the company, which has been in operation since 1996, Sheri’s vision was to deliver a more humanised approach to estate planning. MacMillan Estate planning was founded on this value.
Following on from her last piece on estate planning, Sheri gives an insight into some of the challenges faced when preparing a business succession plan and the techniques used to ensure a successful process.
Will estate planning ensure the successful transition of my legacy to successive generations?
Certainly, without one, it won’t – but with an estate plan, you have a fighting chance. This is an important topic from the estate management perspective. Research in Canada and the US indicates that only 30% of businesses successfully transition from parent generation – the Founders to their children – with 17% successfully transitioning to the third generation, and beyond that, it’s down to a 4% success rate. This is why we do a lot of work in this area. Few families have a plan, and in business, they say that it takes about 15 years to intelligently and strategically transfer your business knowledge, systems and management to the next generation. Currently, the average business owner is about 60 years old. If you think about transitioning over 5, 10 or 15 years, that’s putting them at quite a mature age when the business will be fully transitioned to the next generation. It’s not too late to get started now for most business owners – they should be focusing on succession as part of their estate plan.
This is an important issue from the perspective of the families that we have the opportunity to work with, but also very important from the perspective of a country like Canada or the US, as it relates to its overall economic success. There are stats that show, for example, that 35% of the Fortune 500 companies are family-controlled companies, and that 64% of US gross domestic product comes from family-owned enterprises. This means that if those companies don’t successfully transition, it can have a real impact on our nations as a whole. It isn’t just an important issue from the perspective of the families: it has a broader, public impact as well.
How does business succession impact the determination of “fair” vs. “equal”?
This is always a difficult decision for a business owner, to determine what fair actually means in their particular situation with some key family members practicing and operating within the business, and some family members pursuing different career paths outside of it. How do you compensate those that worked in or will inherit the business, versus those children that pursued a different path? What happens if the estate value is comprised almost exclusively of the value of the company? Does the business need to continue to support your family and successive generations? How difficult is it to sell and realize the true value of the business if the Founder has passed? Who will control the business upon the passing of the Founder?
In a traditional estate, you may split your estate equally because there was no family business – but once this becomes a factor, it is much more complex, especially if there are children participating in it. As the parents age, what will often happen is that parents partially retire or slow down, and the children carry on providing income to the parent group. The concern arises: how much credit should they be given in doing so?
“Fair” vs. “Equal” – this is the most sensitive, emotional area in the wealth transfer of family businesses. Of course, everyone has an opinion, including the spouses of the children. If we want to keep harmony, it is crucial that the parent group that created the business take full control and authority in determining what is fair, and then design an estate plan using tools to ensure that the plan cannot be challenged. This ensures that those who are going to continue to operate the business do not end up in litigation later down the road.
I want to set rules governing control over my business and I am concerned that certain beneficiaries may challenge my Will, can this be prevented?
Yes, this can be prevented. If you transfer control by utilizing a will, there’s opportunity for people to challenge your wishes.
However, we have different tools in estate planning that we can use to create stability so that the estate cannot be challenged. We use mechanisms such as trusts and different techniques to transfer the business appropriately during the Founder’s lifetime to the successors of the business so that it doesn’t leave the door open for anyone to challenge your wishes.
Instead of taking a reactive approach, as it relates to a business, we typically take a proactive approach in building a life plan for business owners ensuring control transfers to the right parties at the right time to ensure that there are no subsequent business interruptions caused by a challenge on the part of an upset beneficiary to the Founder’s Will.
Taxation upon my passing – can we decrease taxes owing and disruption of business through loss of capital to satisfy tax bill?
This is one of the main objectives of proactively planning the succession of a business. As you build wealth in the business, you are also building a tax burden along with it, so you must be prepared to pay it. There is no window of mercy or time that you can delay paying that tax burden. Once you pass on, the taxes are due.
In order for the business to not be interrupted, we will use a couple of different techniques, one of which is quite simple: we often use life insurance to ensure that capital is available to pay the taxes without disrupting the business through forced asset sales or the depletion of operating capital. In essence, we will flood the company with cash reserves at the time of passing in order to pay the tax liability and in some jurisdictions, avoid double taxation that would otherwise result if capital is removed from the company.
Another technique we use is called an estate freeze; this is where we lock out taxation on the growth in value deferring this tax burden until the passing of the Founder’s children. This is called freezing the value of your estate so that the clock stops ticking on the growing tax burden. It will mean that your children will have to pay it, however, it means you won’t have to accumulate so much capital when you pass and the transfer of control occurs.
A third technique is that we can save the tax burden as we build the business so that at any moment in time, as we can never forecast when we are going to pass, we are ready with cash on-hand in order to keep the business whole and prevent any interruptions or disruptions.
A family business is often the family’s life work, not just the Founder’s—the family has often been very involved either sacrificing or actively participating in the success of the business. In order to give the rightful respect and appreciation for that family’s life work, a key step is to ensure that we’re proactively building an estate plan so that the business can be honoured, successfully transitioned, and can remain part of the family’s legacy. This is a step that none of us should miss.