Business Transition Planning
Owner-Manager Businesses
An Overview
October 2, 2013
October 23, 2013
November 6, 2013
William H. Cooper CPA, CGA, LL.B.
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When was Last Time your Client did a Will?
• Step One: Get their Will and read it
• Does it make sense given the current family
dynamics – consider Alter Ego Trusts, Joint
Spousal Trusts and Testamentary Spousal
Trusts
• You’re not just a number cruncher – you’re a
family business counsellor
• If you don’t do it – who will?
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What is Going on with Client’s Family?
• Are relationships solid, shaky or broken – who is in
charge?
• There are significant complications under the new BC
Family Law Act if your client has settled a discretionary
family trust to benefit their adult children – see FLA
Commentary
• You may not be a lawyer but you probably have a better
understanding of your client’s financial and personal
affairs than almost anyone else in their life – take the lead
• You don’t need to be a lawyer or a family counsellor to
help your clients understand the issues – align yourself
with competent professionals – tax lawyers – investment
advisors – valuation experts - don’t be afraid to admit you
don’t know!
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What is the Business Transition Plan
• Does your client have a Transition Plan?
• If not, is their Will sufficient? If not, talk to your
client
• With no plan the only one who gets rich on the death
of your client is the lawyers! The kids won’t be
happy and you may lose a client!
• Get your client to consider succession of their
business
• Without a proper plan in place the family can be torn
apart with infighting over family assets after the
passing of the parents – business stalemate may lead
to Wills Variation and delay in estate distribution
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Basic Business Transition Scenarios
A.
B.
C.
D.
The
The
The
The
Business Liquidation
Family Transition
Employee Buy-Out
Arm’s Length Sale
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Basic Business Transition Scenarios
A. The Business Liquidation
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Conversion and cashing in of the operating business to
an investment business
The operating business phases out due to
obsolescence or loss of market share while no one is
watching
Cash in CGE while business still operating
Consider “Pipeline Strategy” as exit – see resent CRA/
TCC pronouncements to limit tax payable by estate
Consider life insurance and use of CDA
Principal should sell illiquid investment assets
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Basic Business Transition Scenarios
B. The Family Transition
• Will apply in many cases where at least one member of
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the family has taken an interest in the business operations
Consider if the next generation up to the task
Competing siblings can’t run a business
Consider business split while under parents’ control – s.55
Typically a spin-off of redundant or investment/cash
assets is made to investment/holding company
Separate passive retirement fund to protect parents’
retirement
Consider CGE crystallization as pre-paid insurance
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Basic Business Transition Scenarios
C. The Employee Buy-Out
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Works in limited circumstances but can be useful where no
logical arm’s length buyer for the business – e.g.
construction businesses not saleable except to insiders
Long term planning required – consider ESOPs, SARs and
bonus program – “golden handcuffs”
Arm’s length minority shareholdings create marketability
problems – be wary!
Start early developing key employees – get them under
contract
Don’t issue shares to employees unless Principals are
“sure”
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Basic Business Transition Scenarios
D. The Arm’s Length Sale
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Typically only applies to mature businesses where
the business “runs itself”
Can the owner go away for a month? If not, arm’s
length sale unlikely – or value depressed
Set up monitoring systems to facilitate transfer of
day to day control
Few private businesses ever make it to this level
•
Clients have unrealistic view of business’ value!
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Important Factors for a Business Transition
• What are the Family Circumstances?
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stability of marriages
competition between siblings - are kids suitable successors
• Who are the Key Employees?
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are they under contract?
do they have “golden handcuffs” to keep them in place?
Consider ESOPs, SARs and shareholders’ agreements
• Are Key Arrangements Legally Documented?
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software copyright assignments executed?
long-term leases in place to protect operating facilities, etc.
trademarks registered, tech licenses in place, etc.
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Important Factors for a Business Transition
(cont’d)
• Does Operating Company Own Assets Preventing
Sale?
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large holdings of redundant or passive/cash/investment
assets
does ownership of valuable real estate assets limit market of
available buyers for the business
• If a Family Transition, do Wills Permit Transfer as
Contemplated?
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successor generation owners have little interest in “working
their butts off” for the benefit of ne’er do well siblings
financial advisors need to be family councillors
requires some difficult decision making by the principal
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Important Factors for a Business Transition
(cont’d)
• Significant Family Discord?
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consider an Alter Ego Trust or a Joint Spousal Trust
not just to avoid Estate Duties but to avoid Wills Variation
claims
implement the will NOW using AETs and JSTs
• Split Business into Separate Operating Entities?
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separate businesses operations and/or investment activities
ensure kids don’t have to deal with each other
if achieved during lifetime of principals this avoids family
discord and s. 55 butterfly problems on a non-pro rata
distribution
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Important Factors for a Business Transition
(cont’d)
• Consider an Estate Freeze
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convert commons to prefs to push value to next generation
reduces tax on death of surviving parent
consider Family Trust for estate planning flexibility
opportunity to crystallize Capital Gains Exemption (CGE) and,
with Family Trust, multiply CGEs for future value growth
Family Trust buys 21 year deferral of capital gains recognition
Family Trust permits tax deferred roll out of companies’ shares
pushing deferral beyond 21 years to lifetime of next generation
works best with a SHA in place where there are multiple kids as
trust beneficiaries and eventual shareholders
consider s. 74.4 “designated person” attribution rules
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Important Factors for a Business Transition
(cont’d)
• Consider Wasting Freeze
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if parents have more assets to live on than they need – stop
paying wages or dividends and repurchase the freeze shares
if it is timed right there may be no taxable capital gain on
the death of the surviving parent
works especially well for an investment company earning
income subject to RDTOH
run tax integration numbers to make sure no tax penalty
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Important Factors for a Business Transition
(cont’d)
• Family Trust Tune-Up?
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check for 21 year deadline and record it in permanent T3 file
determine timing of trust wind-up and strategy going
forward
roll out of assets under s.107(2) – check if s.75(2) applied
confirm residency status of all beneficiaries
consider possible roll of opco shares down to holdco
implement shareholder agreement before distribution from
Trust
consider impact of BC Family Law Act on discretionary
married beneficiaries
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Important Factors for a Business Transition
(cont’d)
• Consider Crystallizing CGE for Unsaleable Businesses
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protects underlying value on deemed disposition at death
example - a dying business with significant real estate holdings
CGE only available while the business is still operating
crystallizing CGE amounts to purchase of life insurance policy
avoids need for separate holding/investment company
should include a review of Minimum Tax, ABIL and CNIL
balances
get the numbers and balances from CRA before proceeding and
do the pro forma tax return
consider s. 84.1 in any attempt to cash in CGE where there were
non-arm’s length dealings on a transfer of the subject shares
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Important Factors for a Business Transition
(cont’d)
• Spin Out of Opco Investments to New Holdco
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consider where no substantial outstanding creditor claims
isolate investment assets from operational liability issues
lets kids run business during parents lifetime with no risk to
parents/principals on “keeper or pension assets” in holdco
separating businesses into separate legal entities facilitates
transition to different kids
if more than one kid to retain ownership of opco, parents
should implement family Shareholders’ Agreement (SHA)
have family meeting to discuss parents’ wishes
consider s.55, s. 112(1), Part IV and Part VI.1 on any spin
off and cross-redemption of shares leading to intercorporate dividends
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Important Factors for a Business Transition
(cont’d)
• Exit strategy - Key Employees
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consider establishing an Employee Equity Plan that promises a
share in the company’s equity but defers actual share ownership
private companies with minority shareholders are bad news
key employee equity incentives are good but not when they tie
the principal’s hands in dealing with a sale of the business
shareholders’ agreement crucial
use acquisition holdco to permit deductibility of interest
borrowings used to facilitate acquisition
consider impact of s.20(1)(c) on interest deductibility in any
leveraged buy-out - source of funding is typically opco –
holdco/opco amalgamation strategy is essential
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Thanks!
The foregoing presentation merely provides a reminder of some of
the key issues that financial advisors should be discussing with
their owner-manager clients who are considering the sale or
transition of their owner-managed businesses!
Make time for your best clients and work with them to establish a
plan!
TaxMentor is an online tax resource centre that publishes a
monthly owner/manager tax news update with links to tax cases,
CRA and Department of Finance publications as well as hundreds
of other online tax resources at www.taxmentor.ca
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