BUSINESS OWNERSAND THEIR ISSUES

Rick Machtinger B.B.A., M.B.A., C.F.P.Director New Business Development

Desjardins Financial Security Independent Network100 York Blvd, Suite 105Richmond Hill , Ontario L4B 1J8Phone: (905) 707-5795 ext. 226 Toll Free: 1-877-707-5795Fax: (905) 707-8599www.dfsin.ca/RickMachtinger

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Table of Contents

Personal Financial Security Issues 3Business Financial Security Issues 3Transition Planning Objectives 3

Business Loan Protection 4Key Person Protection 4Business Succession 4

Business Succession on Death 5

Business Succession on Death Continued 6

Business Succession on Critical Illness or Disabilty 7

Business Succession on Retirement 8

Buy-Sell Agreement 9

Estate Planning 10Estate Equalization 10Estate Conservation 10

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BUSINESS OWNERS AND THEIR ISSUES

PERSONAL FINANCIAL SECURITY ISSUES:

1. Retirement2. Family income in the event of death and disability3. Wealth accumulation4. Health Care5. Financial Effects of spouse dying

BUSINESS FINANCIAL SECURITY ISSUES:

1. Business continuation in the event of death or disability of the owner2. Access to capital and credit3. Capital gains tax4. Key person loss5. Smooth transfer to family heirs (in case of a family business)6. Employee health and lost productivity 7. Employee retirement

TRANSITION PLANNING OBJECTIVES:

1. Provide for family-maintain family’s lifestyle2. Maintain business value-Owner is the value, if no longer there, the business value

will drop if no provisions are made3. Provide for succession-the business is the owner’s legacy4. Maintain family harmony-children can be petty and greedy, estate equalization can

become an issue5. Tax minimization-Manage the potentially large capital gains bill at death so assets

don’t have to be liquidated

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BUSINESS LOAN PROTECTION:

To ensure the business debts are repaid on the death, critical illness or disability of the owner or key person

1. Will the loan be called?2. Can the business survive?3. The estate will have to repay the loan if the business can’t

KEY PERSON PROTECTION:

To provide funds to the business to offset the financial losses arising on the death, critical illness or disability of those key persons

1. Creditors can call in their loans2. Business could fail3. Customers could leave4. Business profits could drop

BUSINESS SUCCESSION:

A plan to ensure the smooth transfer of a business or interest in a business at the time of death, critical illness, disability or retirement of the business owner

1. The greater the degree of dependence on the business owner, the greater the chances that the business will have to be liquidated in case of death, disability or retirement

2. In addition, if the business owner is close to retirement age and is counting on the business for his retirement assets, the odds are increased that the business will be sold

3. The idea is to reduce the dependency of the business on the business owner

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BUSINESS SUCCESSION ON DEATH:

Involves a plan to ensure the smooth transfer of the business interest at the time of death of a business owner. A smooth transfer of the business will provide financial security for the deceased’s family, maintain the value of the business and maintain family harmony.

One Owner-Business will have to be liquidated, usually at a loss

Ø Debts will have to be repaidØ There may be insufficient funds available to generate an income for the

heirs

More than one owner and unrelated-Need for the surviving owners to buy out that one owner’s heir

Ø What is the fair market value of the deceased owner’s share worthØ Who will run the business

More than one owner and related

Ø Who will run the businessØ Need for estate equalization to maintain family harmonyØ Will the business be able to support everyone

Business is liquidated

Ø Personal liabilities, bank loans and mortgages will have to be taken care ofØ Probate fees and taxes will have to be looked afterØ Adequate income will need to be provided to maintain family lifestyleØ Business value will likely decrease

Business is sold as a going concern

Ø Will there be sufficient income for the heirsØ Will the business’s line of credit still be availableØ Will the new management be able to run the business

Business is retained in the family

Ø Estate equalization to the other members of the family who don’t get as large or even piece of the pie

Ø Who will get the power or control as opposed to just shares (who will run the business)

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BUSINESS SUCCESSION ON DEATH (CONTINUED):

Funding Alternatives:

Ø Cash on HandØ Sinking fundØ Borrow from the bankØ Sell the businessØ Insurance

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BUSINESS SUCCESSION ON CRITICAL ILLNESS OR DISABILITY:

Involves a plan to ensure the smooth transfer of the business interest at time of critical illness or disability. A smooth transfer of the business will provide financial security for the critically ill/disabled owner’s family, maintain the value of the business and maintain family harmony

One Owner

Ø Probability of critical illness/disability is greater than death prior to age 65Ø There is no one to back up the owner to run the business or provide for his

familyØ The business may have to be liquidated at a substantial lossØ Personal assets may have to be liquidated

More than one owner

Ø Odds of critical illness/disability are greater than for a single ownerØ Critically Ill/Disabled partners are legally required to share in profitsØ How long can the company afford to pay the profits, as well as the

payment of a replacementØ Who will pick up the slack

Business is liquidated without a plan

Ø The values received under a forced liquidation are dramatically less than the fair market value

Business is sold, as going concern

Ø Customers may be lost, creditors may demand payment, and goodwill values can drop. As such, the business may be sold for less than fair market value

Business is retained in the family

Ø Do they have the knowledge to run the businessØ Who will assume powerØ Will the business be able to support the owner and his replacement

Business OverheadØ If the owner is critically ill/disabled and is not there to run his business to

generate an income, how does the daily operating expenses get paid?

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BUSINESS SUCCESSION ON RETIREMENT:

Retirement planning involves obtaining the business owner’s goals for retirement, assessing their current situation and determining whether there are any issues that need to be resolved to meet the business owner’s goals. The business owner faces the same issues as any other individual. The only difference is that a large portion of their retirement assets is invested in their business.

The business is liquidated

Ø Are the business assets marketableØ What will the liquidation losses be on the sale of these assetsØ What capital gain taxes will be payableØ Will the funds received be sufficient to provide the desired incomeØ Does the owner have other assets that can generate a retirement income

The business is sold as a going concern

Ø Can the business be soldØ Who will buy itØ What would the sale price beØ What are the taxes due on the saleØ Will the funds received provide the desired incomeØ What other assets does the owner have that can generate an income at retirement

The business is retained in the family

Ø Is there a family member who can run the businessØ Will the business be able to support the owner and his successorØ Will the business be liquid enough to pay both

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BUY-SELL AGREEMENT:

An agreement between owners of a business stating exactly what they want to happen to their business interests during their lifetime and at death. The agreement acts as a ‘referee’ to protect each owner’s interests (and/or those of their families) in the business.

Events to be addressed

Ø Restriction on the sale of an owner’s interest in the business to third parties

Ø Dissention between the ownersØ Retirement of an ownerØ Bankruptcy or marital breakup of one of the ownersØ Death or disability of one of the owners

Advantages to the deceased’s estate

Ø Guaranteed market for the sale of the businessØ Fair price received and liquidity at time of death

Advantages to the surviving shareholders

Ø Guarantees the estate will sell the interest in the businessØ Ownership remains with the surviving ownersØ Minimizes potential disruption to the business

Funding Alternatives

Ø Personal Wealth (may trigger tax liabilities or be inadequate)Ø Bank Financing (burdensome to the business)Ø Purchase over time (family becomes a creditor and counts on owners to

run business successfully)Ø Sinking fund (no way to determine if amount is sufficient, funding

could be inadequate)Ø Insurance

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ESTATE PLANNING:

The ongoing process of creating and maintaining a program designed to preserve an individual’s wealth and distribute it to the succeeding generations in a manner consistent with the individual’s wishes. The objective of estate planning is to die neatly and inexpensively

Benefits

Ø Manage current income taxesØ Manage and plan for taxes due upon deathØ Manage income taxes after deathØ Minimize government interferenceØ Minimize disputesØ Provide peace of mind

ESTATE EQUALIZATION:

Involves planning for the distribution of assets on death to heirs in an equitable manner

IssuesØ Are all children capable of running the businessØ Who should run itØ How should non-participating children be compensatedØ Should non-business assets be directed to those who are non-active and

the business go to those who are

ESTATE CONSERVATION:

Maximizes the value of an individual’s estate to his/her heirs after his/her death. The main issue is keeping the estate intact

Planning

Ø Establish TrustsØ GiftingØ Estate FreezesØ WillsØ Insurance