As a business owner, your business is one of the largest and most important assets of your estate. Therefore, Virginia business estate planning is vital to your overall estate plan.
You must determine who is most suitable to inherit your business, how you are caring for your family and replacing the income of your business, and whether or not you are transferring your business during your lifetime.
Your business estate plan is an ongoing process that will change as your business evolves and develops. However, there are a few things you need to consider before consulting your attorney about Virginia business estate planning.
Options to Protect Your Business as an Asset
A “Buy-Sell” Agreement
Otherwise known as the “shareholder” or “partnership” agreement, this document typically acts as a set of instructions for all owners holding interest in the business.
These instructions will outline what happens to your share of the business after you die. The agreement dictates who can inherit your share of the business, who is unsuitable to inherit the business, or the agreement can prevent familial inheritance altogether.
If your family is unqualified to inherit your share due to your buy-sell agreement, the partners are generally required to buy-out your share of the business.
Establishing a living trust protects your business interests in a number of ways. With a living trust, you are able to retain your ability to make business decisions as the trustor. The living trust acts as a legal entity that owns your business during your lifetime.
The business assets within your living trust are also protected from probate proceedings. The living trust carries a reduction of your estate taxes because your business is exempt from probate proceedings.
Your appointed trustee is in charge of managing the trust. However, you also retain the ability to name who your successor is, and when they take ownership of your business or share. Typically under a living trust, you name your successor to take control of your assets at the time of your death.
Transferring Your Business
Grantor Retained Annuity Trust (GRAT)
Opting to transfer your business into a GRAT means you are making a one time contribution of your business assets into an irrevocable trust. You cannot alter, attribute to, withdraw from, or cancel the trust once it is in place. The GRAT becomes the legal entity that holds ownership of your business.
You are able to transfer part or all of your business into the GRAT. Establishing a GRAT allows you to receive annuity payments for the term set by your trust. The annuity you receive is dependent upon a fixed percentage that is determined at the time you form your trust and contribute your assets. The term of your annuity payments are determined by the same documents.
Once your term for annuity expires, the “residual” – or remainder – of your assets are transferred to your named beneficiaries. If you list your business as the trust asset, you are agreeing to receive income on the interest of the business while transferring ownership in the future.
The IRS accepts GRAT business transfers, conditionally. You must ensure that your GRAT does not allow:
- Any additional contributions to the trust. As an irrevocable trust, you are not able to make any changes to the type or amount of assets covered by the trust.
- “Commutation,” or prepayment of your annuity by your trustee in order to hasten asset distribution to your beneficiaries.
- Payment of annuity to anyone that is not you. As the grantor, you are the sole beneficiary of annuity on your trust.
Grantor Retained Unitrust (GRUT)
A GRUT operates similarly to the GRAT, with some technical differences. For example, you will receive a fixed percentage of the assessed “fair market value” of your contributed assets. Much like the annuity of the GRAT, a GRUT’s payments are only active for a specified term.
Any remainder of principal not paid to you by your GRUT during the specified term is distributed to your beneficiaries along with your trust assets.
Grantor Retained Income Trust (GRIT)
Once again, the GRIT is very similar to the GRUT and GRAT options. However, with a GRIT, you have the ability to choose how you receive your trust’s annuity.
One option allows you to begin receiving payments of your trust’s generated income upon your death, which provides your family with some financial stability.
The other option allows you to receive fixed payments of your trust’s generated income for a set term.
However, if you outlive your GRIT’s income term, the residual principal passes along to your beneficiaries. The catch: the beneficiaries of your GRIT principal cannot be family members.
Some of the most common issues that arise in Virginia business estate planning are tax-related conflicts. Improper planning and poor judgement of your estate plan could leave your beneficiaries paying hundreds of thousands in estate taxes on your estate. Overwhelming estate taxes can lead to your beneficiaries selling part or all of your estate in order to cover the inherited taxes.
Establishing a trust, such as the GRAT, GRUT, or GRIT helps you to avoid passing on overwhelming estate taxes. These trusts allow you to transfer your business and retain income on your assets with a subtle tax benefit. As your assets “appreciate,” or become more valuable over time, that increase is not subject to estate taxes.
Additionally, the gift tax on your estate is determined by the value of your trust remainder. You are not subject to pay a gift tax on the initial amount of your trust contribution, because you retain access to the assets of your trust. At the end of your trust term, the assets are transferred and the gift tax on your assets is imposed.
Virginia business estate planning seeks to protect your business assets, but there is more that you will need to do in order to secure the future of your business.
Your plan needs to include considerable planning for your successors. This means your business is only as successful as your successors, and you are still a part of planning that success.
Consider planning ahead:
- Develop training for your successors. Your beneficiaries need to have some knowledge of your business, how it works, and how it’s managed. Leaving your business to a beneficiary who has little knowledge or interest in your field will not bode well for your business or your company’s future.
- Establish delegation of responsibilities. Outline who is expected to assume which responsibilities, and the enforcements that should follow. Think of it as your “company’s policy” on expected work performance.
- Discuss the transition with your employees. Let them know ahead of time that there will be a shift in management. Reassure them that you are doing everything you can to ensure a smooth transition. Retaining employees is a major aspect of transferring businesses. Everyone, including family, management, investors, or shareholder employees need to understand the changes that are taking place.
- Outline your business structure. If you are transferring business ownership to one beneficiary, but you are delegating the management of the business to another, you need to define that relationship. Establish how they work together, how they work apart, and how the positions should operate in order to benefit the interests of the business.
Your business is a large asset in your estate. Protecting and ensuring its future success is the first step of Virginia business estate planning, but certainly isn’t the only step.
Schedule a consultation with our estate planning attorney to discuss your business estate plans.