After building a successful business, many owners decide on transferring their business to their children. Too often, those owners assume that transferring a business to children will go smoothly and simply, requiring little more than informing their kids of the date they’ll be taking the reins. Owners who make this assumption commonly realize that without planning, they can harm their businesses, their business exits, and their long-term relationships with their families.
Without proper Exit Planning, ownership transfers to children can produce negative consequences in three areas of your life.
It’s likely that your children don’t have the capital to purchase their shares of ownership outright. This means that when transferring a business to children, you’ll likely need to accept a promissory note and rely on your child to maintain or grow the company to receive your business’ full sale value. If something goes wrong, such as your child not having the ability to run the company as successfully as you did, you may receive less than what you expected from the transfer of your ownership interest. Since the goal of an Exit Plan is to position you to exit with financial security, transferring ownership to a child without a thoughtful plan can threaten that goal.
Another common money-related problem concerns how you’ll parse your assets between your business-active children and non-business-active children. Transferring ownership shares to non-business-active children can lead to two problems.
First, it can create resentment among any business-active children, because those children have worked hard to build the business, only to watch a sibling who did nothing to build the business get a share of their hard work. Second, it can make non-business-active children feel forced to do something they have no interest in doing to receive their share. In both cases, your company’s cash flow can be affected, potentially harming your ability to exit your business with financial security.
Transferring a business to children usually requires owners to wait longer before receiving full sale value. This means that your finances may be exposed to general business risk for longer. If the company or economy experiences a downturn, you might need to wait longer than you had anticipated to receive the full sale price, which can affect your post-exit plans.
Another time factor that many owners overlook relates to how much time they’ll need to spend training their children or refereeing squabbles between them. If your children aren’t ready to run the business without your help, you may find yourself doing more work for longer, which can prevent you from doing other things you want or need to do to achieve your exit goals. Additionally, if you need to mediate fights between children—whether it’s related to who should do what within the business, or asset allocation between business-active children and non-business-active children—you may end up spending more time cleaning up messes or, worse, end up having to take the reins back to prevent your children from doing permanent damage.
When transferring a business to children, owners assume that their children will run the business similarly to how they ran it, and this isn’t always the case. If a child decides to run your business differently than you, it can create discord or amplify existing friction among your family members. This can cascade into problems that affect the money you receive and the time you spend in the business.
Differing values can also create hard feelings among in-laws, who might feel that you aren’t treating their interests fairly. In the worst scenarios, in-laws can use access to grandchildren as bargaining chips to get what they think they deserve out of your ownership transfer.
Business owners often fail to identify the consequences of a poorly coordinated ownership transfer to children until it’s too late. If you’re considering transferring a business to children but aren’t sure whether you’ve addressed these potential problems, contact us today.
The information contained in this article is general in nature and is not legal, tax or financial advice. For information regarding your particular situation, contact an attorney or a tax or financial advisor. The information in this newsletter is provided with the understanding that it does not render legal, accounting, tax or financial advice. In specific cases, clients should consult their legal, accounting, tax or financial advisor. This article is not intended to give advice or to represent our firm as being qualified to give advice in all areas of professional services. Exit Planning is a discipline that typically requires the collaboration of multiple professional advisors. To the extent that our firm does not have the expertise required on a particular matter, we will always work closely with you to help you gain access to the resources and professional advice that you need.
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Any examples provided are hypothetical and for illustrative purposes only. Examples include fictitious names and do not represent any particular person or entity.