ChrisRecord.com » Tax Tips

Legal Tip: How Do I Divide the Family Business between My Children?

Chris Record — Thu, 26 Nov 2009 04:04:12 +0000

As an entrepreneur I always keep my ear to the ground for valuable information that experts are willing to share, and today I was introduced to a great article on how to divide the family business between your children.

This may or may not apply directly to you and your business, but the information is still extremely valuable. Pass this along to anyone that you know that runs a family-owned business that might benefit from this…

Kenny Childs is an attorney with Kyler, Kohler, Ostermiller & Sorensen, LLP (“KKO Lawyers”), who regularly helps his clients with estate planning issues. He has written this article to share some advice with us on how to handle and “pass-on” the family business.

Is fairness between your children important to you and your family? How do you divide your estate between your children who have worked and been involved in the family business all their lives and those children who haven’t? Should the children in the business buy the business on sweetheart terms and still share equally in the estate? This is a major issue for those families operating their own businesses. The biggest mistake you can make is failing to address this issue in your estate plan. Failing to make these sorts of decisions before you pass away can cause years of contention and pain for your surviving family members.

Generally speaking, we believe that if you have children involved in the family business and both you and the children want to keep the business after you pass on, it is critical that the children who are in the business buy or inherit all of the business interests and if possible, the business real estate. Otherwise, the family is left in a state where they have serious conflicts of interest. We have seen relationships between family members destroyed because a parent thought it wise to leave a child not involved in the business his or her “share” of the business so he or she could receive an income stream and not feel left out.

The problem with this is that most family owned businesses do not pay significant dividends; the child not working in the business owns a valuable asset but it is useless to him or her unless the business is sold. On the other hand, if there is a significant dividend or distribution out to the child not working in the business, the children in the business feel as if the non-working child receives significant dollars while doing nothing. Also, children in the business will also have different investment and cash flow goals for the business than the outside child. This does not mean that all of the children cannot inherit equal values; it just means that the children outside of the business should inherit other assets, not the business.

In dealing with dividing the business real estate, we usually recommend that the children in the business either buy or inherit the property. When this isn’t possible, consider putting in place a lease that can only be terminated by the company and that sets a fair market value for rents based on an appraisal done every few years or a lease involving automatic increases. The children in the business can also be given an option to purchase the real estate within a certain time period for its fair market value. This allows them to buy some time after the parents have passed on to prepare to purchase the real estate from the estate.

In order to accomplish the goal of having a clean break between the children involved in the business with those that aren’t, there needs to be liquidity within the estate in order to “pay off” the children that won’t be involved in the business. Other assets that may pass to children not involved in the family business include the personal residence, retirement plans, savings or investment accounts, rental or other investment property and life insurance proceeds. If your estate is lacking in other assets to pass to children not involved in the family business, then life insurance is almost always the best route to take to give liquidity to the estate.

As we have discussed in previous newsletters, in order to avoid estate taxes on life insurance, we use an Irrevocable Life Insurance Trust that effectively gets the life insurance out of the estate before you pass away in order to avoid the insurance proceeds from being added to the value of your estate. Beware however, that this strategy is not one to implement on your death bed as you would obviously be uninsurable at such a time and if you do pass away within three (3) years after an existing policy is assigned to an Irrevocable Trust, the full value of the policy is subject to estate taxes.

Another way to give liquidity to your estate is to begin investing now outside of the business. So many times our clients are focused exclusively on re-investing inside the business, which is obviously very important, however this creates all of the wealth to be passed on limited to the business itself, which fails to provide liquidity for those children outside the business. Consider not paying off all of the business debts immediately and consider making investments apart from the business. A 401(k) or other retirement plan may be a good start. Obviously there is a delicate balance to be struck here and decisions regarding where and when to make such investments should not be taken lightly.

The biggest mistake you could make is failing to implement a plan long before you pass away. The older you get the more limited your options become in implementing different strategies to both minimize estate taxes and to ensure fairness in dividing the family business between your children. Furthermore, providing all of the children a plan in advance gives the children time to come to terms with the division of the estate and do their own planning for the future based on the division. Allow a way for your family to avoid the grief and pain caused by failing to properly plan for a division of the family business long before you pass away.

If you feel this is an issue your family needs to address, please call the offices of KKO Lawyers to make an appointment with Kenny Childs and tailor an Estate Plan to your situation. If you have any questions or feedback, feel free to comment :)

7 Tax Strategies Every Real Estate Agent Should Know!

Chris Record — Wed, 16 Sep 2009 04:46:28 +0000

Mark J. Kohler

My personal lawyer, Mark Kohler, specializes in helping Realtors and Entrepreneurs with Tax and Legal Strategies to help them KEEP more of the money they work so hard for. Recently I invited him to Raleigh, North Carolina to speak to a room full of business owners and real estate investors and the feedback that we received was amazing! I wanted to share with my Active Rain community 7 Tax Strategies that Every Realtor Should Know. I would love to hear your feedback :)

7 Tax Strategies Every Realtor Should Know

By Mark Kohler, CPA (KKO Lawyers)

In our practice, we have helped many Realtors in tax planning for themselves and for their businesses in order to maximize tax savings that have helped many of our Realtor clients be successful in putting more money in their own pockets, as well as that of their customers.

1. The Value of an S-Corporation.

In our opinion, every Realtor that is independently employed by brokers should seriously consider the use of an S-Corporation as their form of doing business. The major benefit to using an S-Corporation versus a Sole-Proprietorship is the ability to save on self-employment tax. The self-employment tax rate is 15.3% on every dollar earned, while through the use of an S-Corporation the owner can split salary and dividends to save dollars on the dreaded self-employment tax. As an added bonus, the S-Corporation provides liability protection for the Realtor and may protect their personal assets in the case of a lawsuit from a project gone bad.

2. Self Directed IRA’s.

In the last several years many more self directed IRA management companies have come into the market, providing IRA owners the ability to take their IRA funds out of the traditional stock market and invest their IRA funds in real estate. Often times, individuals would like to invest in real estate but do not have the available cash to afford the down payment and get the project ‘jump started.’ Utilizing IRA funds has become a very popular strategy in allowing people to better utilize their retirement funds. However, care must be given to plan appropriately with your accountant or tax attorney familiar with these types of transactions. Most IRA Managers require a Limited Liability Company (LLC) to hold the investment for the IRA and thus require further consultation and support. In sum, the time and cost to implement a self-direct IRA real estate project is affordable and often times outweighs other options.

3. 1031 Exchanges.

Although there has been a reduction in the capital gain rates through the Job’s and Growth Tax Relief Reconciliation Act of 2003, signed by President Bush in May of 2003, the 1031 Exchange is still very viable for real estate investors and their agents helping them to invest in property. The 1031 Exchange allows any property owner to exchange their property for equal or greater value into multiple pieces of property while deferring the capital gain tax regularly due upon sale. The higher the value of the property the greater the tax savings. Generally, it is going to behoove the investor or their agent to utilize the services of an intermediary 1031 exchange company. An intermediary handles the transactional documentation and escrow services while working closely with the title company during the purchase and sale of the properties.

4. Tax Benefits of Rental Real Estate.

Many new Realtors have not experienced the power of depreciation and flow through losses from rental real estate. I would recommend that every Realtor take the time to study and learn about rental real estate and the deductions related thereto, such as depreciation, chattels, and tax-free appreciation. Many times the greatest financial return from rental real estate is not the cash flow from the rental itself, but from the tax-free appreciation and the depreciation flow through losses from the operations of the business. Many of my clients feel that they have a fantastic rental property when they break even with cash flow because of the ancillary tax benefits that are created there from.

5. Stepped-up Basis in Capital Assets Upon Death.

Even with the current changes to the estate tax provisions of the Internal Revenue Code, the “stepped-up” basis provisions are still in effect for several more years. What these provisions provide is that when an individual passes away, any capital assets they owned receive a stepped up basis to fair market value. Sometimes, holders of real property will make the mistake of placing the children or other family member’s names on the asset that would have previously received a stepped up basis. Therefore, when a person passes away, only a portion of the property is stepped up due to the fact that they only owned a portion of the property. Agents and real estate investors should be very careful as to how they change the ownership of the property with a person that is older or has health concerns because the tax impact can be dramatic.

6. Estate Taxes.

Every real estate professional should be generally familiar with the estate tax provisions so they can advise their clients that own large pieces of property. It is too bad that some people “loose the Family Farm” due to the estate taxes because they were not properly advised to do estate tax planning. Many agents have land owners that are farmers and ranchers that have large tracts of land but are cash poor. These land owners should consider the use of Charitable Remainder Trusts and other mechanisms to save on potential estate taxes.

7. Keeping good records and planning.

Many business owners wait until April 15th to try to do their tax planning for the past year. It is critical that taxpayers keep good records of the tax deductions they are trying to take throughout the year and meet on a regular basis with their accountant or tax attorney to go over strategies that may be helpful in their business. Travel, entertainment, home office and advertising expenses are deductions a realtor should certainly consider and take advantage of. Due to poor planning and record keeping, many Realtors don’t take deductions that are legally theirs. In summary, we recommend that every Realtor take the time to build a strong relationship with a business/tax planner that can facilitate and advise on many of the above strategies for the realtor and for the Realtor’s customers.

You can learn more about Mark Kohler by visiting him online at http://www.MarkJKohler.com or http://www.KKOLawyers.com