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Business Preservation (Long Version)

September 16, 2021

Business Owner Succession Planning

Succession planning for many business owners is usually on their to-do list. Unfortunately, this task is often overlooked or pushed aside. After all, it is a complicated process to determine what happens to the business in retirement or unforeseen obstacles. This process takes quite a bit of thought and effort on the part of the business owner and some trusted advisors. It can be a time-consuming and emotional process, something a business owner may not look forward to. Interestingly enough, many business owners do have some sort of contingency plan in place. It is common practice to protect their futures with life insurance policies and protect their hard-earned purchases with home insurance. Creating a strategy to protect the things we have worked hard to achieve is common among most people, so why would protecting the business you have worked so hard to build be any different?

Is it surprising that less than 50% of small business owners have a succession plan in place?

Business owner succession is a topic that is important to explore no matter where you are in your business’s life cycle. Whether you are just beginning to build your company or have already established your business and are looking to prepare for what lies ahead, planning for every possible scenario is essential in being a successful business owner.

Building a successful business is no matter of coincidence; in fact, there are many common traits of successful business owners that allow their companies to flourish where others do not. Creating any highly functional and efficiently operated company takes time, effort, dedication, and perseverance over all obstacles. Eventually, these successful organizations grow and require many people’s unified effort to maintain themselves and their continued expansion, which is often accomplished over many years. These years of hard work invested into any company are worth protecting. While certain obstacles face any organization that can be avoided or more easily navigated, like theft or fire, the inevitability of a change in a leadership position is often one challenge that many companies do not consider. At some point, any owner or key employee in the company might retire, become disabled, or die unexpectedly. Without a proper plan in place, such an event could leave a company disoriented, mismanaged, and without a course of action for how to continue beyond this critical individual’s departure. This is why it is so vital for businesses to prepare long before such a situation occurs. Such actions, known as business owner succession planning, are integral to any company’s survival once these situations inevitably arise. A little planning for the eventualities that each business will face goes a long way in ensuring that the company can weather whatever storms may lie ahead.

Organizing a Buy/Sell Agreement

What do successful business owners do in advance to prepare for business succession?
Business owner succession planning can take different forms depending on how the company is run. Regardless of whether the company is to simply be sold, liquidated, or passed down to the next generation of owners, organizing a buy/sell agreement is essential. This type of business owner succession plan is “triggered” by either the individual’s voluntary or involuntary departure in question. It determines how the transfer of the individual’s interest in the company will be divided, purchased, or sold. A voluntary trigger might refer to retirement or a step down from a leadership role, while an involuntary trigger could refer to an untimely death, bankruptcy, or insanity. Keys to successful succession planning for small business owners include addressing the anticipated timing of a likely retirement or departure from a leadership role, identifying multiple potential successors qualified for the position, tax planning, and creating additional contingency plans for unforeseen circumstances. Having these “triggering events” predetermined and in place is an essential first step in the master plan exit strategy for successful business owners.

Additionally, when formulating a business succession plan, the owner should determine precisely how the buy/sell agreement will be financed, the kinds of events that could trigger the sale, and who exactly will be purchasing the available business interest. Ideally, this will be done long before any transitioning of management is required, and will set a detailed roadmap for the company’s future. These buying and selling agreements typically fall into two categories: The first is “entity plans,” where the business itself takes possession of the interest in the company made available after a triggering event. The second type of agreement is “cross-purchase plans,” where it is the other owners within the company who decide to purchase the available interest. Both options of succession plans have their advantages and disadvantages, and different factors that can affect the process often leave the involved parties feeling overwhelmed. Taxes, various administrative tasks, paperwork, legal issues, and unforeseen expenses can add to the stress and confusion of a significant change in ownership of a company. To mitigate this, business owners typically institute a “Partnership Administration Success Strategy (PASS).”

What is a Partner Administration Success Strategy (PASS) Plan?

A Partner Administration Success Strategy, or PASS plan, is when a company’s business owners enter into a cross-purchase buy-sell agreement, allowing the owners to form a general partnership where every owner is named a partner. The owners then purchase life insurance policies and transfer the policies to the partnership as capital contributions. This strategy allows for the business partnership to be both the owner and beneficiary of the insurance policies individually held by each business owner. By utilizing a PASS plan in conjunction with their Buy/Sell plan, businesses can more readily see the benefits of their efforts, regardless of whether they chose either an entity or a cross-purchase plan. Under these kinds of agreements, the business owners can have their policy premiums paid by the company in increased salary or an annual bonus. From here, the insured parties can then transfer these funds directly back into the partnership as capital contributions. Another option is for the business to become a partner and pay the premiums directly to the partnership as capital contributions. This general partnership structure’s benefit includes the partners’ flexibility to allocate income, profit, gains, and losses amongst themselves to meet the business’s objectives better. They allow the general partners to balance costs and distribute life insurance proceeds fairly and in a timely fashion. What successful business owners have in common is the desire to ensure their company’s future regardless of how involved the process might be now or in the future.

A deceased business partner’s life insurance proceeds can flow directly into the business partnership by having a PASS plan in place. This allows the surviving partners to allocate the funds to purchase the deceased partner’s interest in the company. Once the business partnership’s interest is purchased, the remaining funds can be distributed evenly to the living business owners since they are the life insurance policy’s beneficiaries. Estate and succession planning for small business owners take time and teamwork to be successful.

A business partner’s death is not the only scenario in which a general partnership is advantageous to have in place. A general partnership, which helps manage the buy/sell agreement, can also be useful following ta business owner’s planned retirement or unplanned disability. In the event of either of these possible outcomes, the partnership can distribute the retired or disabled partner’s life insurance policy to them in exchange for their interest in the partnership/ownership of the company. Receiving these policy funds income tax-free is another benefit to the departing owner that should be considered when developing this strategy. Another common strategy for business owners is to over-fund the life insurance policy(s), which allows the remaining business owners to purchase the outgoing partner’s interest in the company more efficiently.

Implementing Successful Business Owner Succession

Planning and taking the time to create and implement effective succession strategies are essential characteristics of successful small business owners. Ensuring that your business is secure no matter what changes the future may bring is a priority that any business should not overlook. With the added outlook of the future challenges that lie ahead, some being predictable while others are unforeseen, these companies who take the time to create and implement a succession plan properly are better suited and prepared for the eventualities that inevitably befall any organization. Your business must take the time to prioritize an effective business owner succession plan that protects the investment of the years of effort that has been poured into the success of your organization. Accessing the keys to successful succession planning for small business owners does not have to be complicated or confusing. For your company’s future, your owners, and employees, get in touch with a trained financial professional today and prioritize and map out your plan for a future prepared for the challenges that it will surely bring.


This post is for informational purposes only and should not be considered as specific financial, legal or tax advice. Depending on your individual circumstances, the strategies discussed in this presentation may not be appropriate for your situation. Always consult your legal or tax professionals for specific information regarding your individual situation.