Planning for how you will exit your business is arguably just as important, if not more important, than how you will run your business.
One option available to you is the strategy of gifting your business.
Here at Consolidated Planning, our financial professionals are well versed in the coordination of solutions that address your concerns around protecting, growing, and exiting your business. Whether those concerns are realized yet, or not.
In this article, we’ll help you understand what it means to gift your business – considerations for gifting your business and ways to minimize taxes through the process to help you decide if this is the right solution for you.
What Does It Mean To Gift Your Business?
Gifting your business means transferring ownership to another party, typically a family member, without monetary compensation. It’s a strategic way to pass on your life’s work while preserving its legacy within the family.
Unlike selling, gifting focuses on maintaining both continuity in the business and family ties, ensuring that the next generation carries forward the values and mission that shaped your business in the first place. Because this process involves varying complexities – with taxes and family dynamics (that one is fun), gifting is a thorough and intentional act of succession.
Let’s take a look at some areas you need to consider when it comes to gifting.
Key Considerations for Gifting Your Business
Gifting your business can be an incredibly rewarding way to exit your business. With that, however, there are added nuances that you won’t find with a typical sale.
1. Family Dynamics and Fairness
First up, family dynamics. Let’s fast forward to the Thanksgiving dinner table this year…your strategy when it comes to gifting that business might be a hot topic amongst your children.
Gifting your business to family members can foster a sense of legacy and continuity. However, it requires careful consideration of family dynamics. For instance:
- Involvement and Interest: Ensure that the successor is both prepared and interested in taking over the business. A passionate and capable successor increases the likelihood of a successful transition.
- Fairness: If multiple children are involved, fairness becomes paramount. Gifting a business unequally may lead to feelings of resentment or favoritism, especially if some children are more involved in the business than others.
Understanding these dynamics ensures that gifting strengthens family bonds rather than causing division. And we’ve seen it happen. With family harmony in place, you can focus on the financial and tax implications of gifting.
2. Tax Implications Of Gifting
Regardless of your exit path, potential tax implications are always of paramount importance. Or at least, they should be. Gifting a business has distinct tax implications that you’ll want to fully understand and adequately plan for:
- Gift Tax: Transfers above the annual exclusion amount (… $18,000 in 2024) count toward the lifetime exemption ($13.61 million in 2024). Planning strategically can reduce or help eliminate tax liabilities.
- Estate Tax Advantages: Gifting during your lifetime reduces the size of your taxable estate, potentially saving on estate taxes.
- Capital Gains Considerations: If gifted during your lifetime, your child inherits your cost basis, which could result in higher capital gains taxes upon future sale.
By addressing these tax implications, you can better structure your transition to minimize costs and protect the financial future of your business and those you’re gifting it to. The next step is to determine the accurate valuation of your business. Accurate.
3. Importance of Accurate Valuation
An accurate business valuation ensures that you’re not overestimating or underestimating the value of your business. Doing so can lead to financial and relational challenges. An overvaluation may result in excessive tax liabilities, while an undervaluation could lead to disputes among heirs and penalties for non-compliance with tax regulations. Ouch.
An accurate valuation of your business helps you to:
- Ensure compliance with tax regulations
- Avoid disputes among family members
- Provide a fair baseline for balancing inheritance among heirs
Professional valuation services can provide an objective assessment, helping to prevent conflicts and minimize tax-related issues. And today, there is no reason why you can’t have a professional business valuation completed with online resources like BizEquity. Once the valuation is complete, you can explore strategies for tax efficiencies while gifting.
Strategies to Minimize Taxes While Gifting
Minimizing taxes is no stranger to you as a business owner. And the same is true when it comes to navigating tax strategies around gifting your business. Maximizing the benefits of gifting from a tax standpoint may include:
1. Utilizing Annual Exclusions and Lifetime Exemptions
Take advantage of the annual gift tax exclusion to transfer portions of your business incrementally. Use the lifetime exemption strategically to transfer significant wealth in a tax-advantageous way.
2. Categorizing Shares into Voting and Non-Voting Interests
Categorizing your business stock into voting and non-voting shares boasts economic interest without relinquishing control. Voting shares grant their holders the ability to influence business decisions by participating in major votes while non-voting shares do not carry these voting rights but still entitles holders to financial benefits like business profits.
With this strategy you can gradually gift non-voting shares to your children while retaining control through voting shares. This approach reduces your taxable estate while maintaining decision-making authority.
3. Leveraging Trusts
As a business owner, you have far more risk on your balance sheet than others. Along with that risk comes to necessity to protect it. While that Will you (hopefully) have in place is great, the right Trust(s) gives you the protection you might not even know you need. Let’s look at two options to leverage:
- Irrevocable Trusts: Transfer non-voting shares into a trust for your children. This protects assets from creditors and ensures orderly succession.
- Grantor Retained Annuity Trusts (GRATs): Retain an income stream while transferring the remainder interest to your children tax-efficiently.
Implementing these strategies ensures a seamless transition that balances financial advantages with your desire to maintain control. Trusts help establish the clarity necessary to maintain family harmony with this process.
Maintaining Family Harmony During the Transition
As we mentioned, successful gifting requires open communication and thoughtful planning for the sake of your livelihood and your children. It may seem elementary but the power of family dynamics can sometimes be downplayed.
- Set Expectations Early: Discuss your plans openly with family members to manage expectations and mitigate potential conflicts.
- Involve Professionals: Financial professionals can help mediate sensitive discussions and provide objective guidance.
- Balance Inheritance Fairly: Use tools like life insurance or other assets to ensure that children not involved in the business receive equitable shares of the overall estate.
By addressing potential concerns early and involving trusted professionals, you can navigate family dynamics with confidence. This holistic approach not only protects relationships but also strengthens the foundation for a successful transition.
Is Gifting The Right Strategy For Your Business?
With a focus on the right areas, gifting your business can be a strong strategy to protect your legacy and ensure business continuity within your family by:
- Reducing estate taxes,
- Maintaining control during the transition,
- Establishing fairness, and
- Providing mentorship to your successors,
To navigate the complexities of gifting your business, talk with a business planning professional at Consolidated Planning. A solution that benefits you and your successors does exist.
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Guardian, its subsidiaries, agents and employees do not provide tax, legal, or accounting advice. Consult your tax, legal, or accounting professional regarding your individual situation. The information provided is based on our general understanding of the subject matter discussed and is for informational purposes only.
This material contains the current opinions of Consolidated Planning only. These are not the opinions of Park Avenue Securities, Guardian, or its subsidiaries.
