Business succession – what happens to your business once you no longer choose to or are able to run it – is one of the most important and often overlooked issues small business owners face. As you launch your business and get it up and running, your focus is on maintaining and growing that business. Like many issues that involve planning for later in life, it can be unpleasant to think about what will happen when you are no longer able to do what you are doing now.
Unfortunately, a failure to plan can result in the unnecessary end to your business, cost you money and impact the security of future income. Creating your “exit strategy” by establishing a strong plan for succession ensures your business is protected and is one of the most important things you can do as a business owner. A strong exit strategy ensures:
- Business partners are not left dealing with complicated issues if your exit comes suddenly or prematurely.
- Insurance benefits are immediately available to pay for your share of the business, so there is no risk of external takeover or a need to force the sale of the business.
- A timely settlement of your estate, saving your family inconvenience, cost, and further emotional trauma.
Creating Your Business Succession Plan
According to the Family Business Institute, despite the assumption of nearly 90% of current business owners that their family will take over the business, only about 30% of these businesses survive into the second generation. Creating a succession plan ensures your family has the option of taking over the business, but it also allows them the freedom to choose not do so without losing money or forcing the business to fail. How can you create a realistic succession plan?
First, choose a successor. If you want your business to continue on in the hands of a family member, employee, or someone else, put a plan in place now. This gives you an opportunity to discuss succession with the appropriate people and determine if what you envision is also what your successor wants.
Next, choose the legal arrangement for succession. Your options include cross-purchase agreements or entity-purchase agreements. The former is structured so that all of the owners buy and own separate life insurance policies on each of the other owners. Each owner is a policy holder and beneficiary. Should one die, the life insurance proceeds are used to purchase the share of the business that belonged to the deceased. This arrangement only makes sense in businesses where there are few owners.
An entity-purchase agreement is less complicated because it usually involves the purchase of fewer life insurance policies. Such an agreement is structured so that only the business purchases separate life insurance policies on each of the owners. The business acts as both policy holder and beneficiary. If any owner dies, the business uses the proceeds of that owner’s insurance policy to purchase the share of the business that belonged to the deceased.
Your business does not need to end with you, but careful planning on your part is required while you are still here. The sooner you put a plan in place, the better for everyone involved.