There may come a point when a business owner will want to turn over their business to one of their family members. This could be due to a variety of reasons. Perhaps they are going to retire and wish to entrust their business with a family member who they know will run it well. Either that or the business owner may just want to sell their business to a family member or give it to them as a gift.
Whatever the reason is, it is important to understand how to transfer your business to your son or daughter so you incur the least amount debt and tax liability possible. Furthermore, you must consider how much money you want to take away from the business transfer so that you can afford to move on with the next chapter of your life. The decision you make will likely revolve around how much your business is truly worth. Are you transferring your business to escape liability or to cash out and retire? How much liability are you placing on the shoulders of the family member who is taking over your business? This is what will be discussed below.
If you are transferring your business for the purpose of retirement, then you will obviously want to sell the business to them rather than just give it away. After all, you need to have a substantial amount of income or money in the bank that you can use to afford your lifestyle and living expenses after you retire. So, what you must figure out is how much money you will need in order to live in retirement for the next 20, 30, or 40 years. All this money won’t necessary come from just the sale of your business.
Perhaps you have other investments, assets, or businesses that you could draw money from too. But what you will need is enough money to at least afford the lifestyle that you are currently living. This means accounting for expenses like car premiums, health insurance premiums, mortgages, food, utilities, clothes, club memberships, vacations, and so on. Fortunately, most retirees already have their home paid for so you may not have a mortgage to worry about. This means your retirement expenses will be significantly less than your previous lifestyle expenses.
There are two ways you can receive income from the sale of your business to you son, daughter or any other family member. You could either take a one lump sum of the entire amount or you can stay partially connected to the business and earn a monthly income from it. A lot of times, owners will continue serving on the board of directors or will stay as a paid consultant to the new owner.
If you still want to play a more important role, you can continue helping clients and keep the business operations afloat until the new owner gets used to how the business is run. You may want to do this in order to ensure the success of the new owner. After all, if your son or daughter fails at running the business and you are expecting to receive monthly payments from him/her, these payments will stop showing up and that will interfere with your retirement. So, you’ll want to stick around and help make sure this does not happen.
The three main ways in which a business can be transferred to a family member is as a gift, through a sale, or through a partial sale. You might think that a sale would always be the obvious choice because you can make money that way. However, there are times when giving the business away as a gift might be the better choice. Perhaps the business has a lot of debt or taxes owed and you don’t have the time or energy to try and turn it around. So, you pass the responsibility to one of your family members and let them deal with it.
The second transfer option is to sell your business to your family member either in full or partially. Chances are that your family member is not going to have the cash to purchase your business in full so you will have to seller finance most of the sales price for them. They could try going to a bank and getting a loan, but most banks do not like giving loans to people so they can purchase other businesses unless they have an excellent commercial credit history.
Therefore, you will have to conduct a note sale where the buyer agrees to make payments to you every month in exchange for getting ownership of the company. These payments are applied to the principal amount that was seller financed with added interest on top of it. If for some reason the buyer defaults, then you would legally be able to get the business back while keeping all the payments that were made up until that point. The only thing is you must hope that the business itself has not been ruined by the previous family member who was running it while you were away.
Thirdly, you can conduct a partial sale where you only transfer certain portions of your business and its assets. This will give you the flexibility to still have some say in how the company is run and it will allow you to continue getting a steady income from leasing the assets and building to the new owner. The only downside is that your profits from the partial sale will be subjected to a captain gains tax but this should be expected from all business sales where profits are made. But the upside to a partial sale is that you can cash out and still receive a steady income at the same time. Meanwhile, the new owner is running the company and you don’t have to make any of the important decisions or spend too much time dealing with its operation.