If you're a small business owner, you're probably focused on day-to-day needs. But looking ahead to what will happen when you retire or pass away should be a top priority.
If you pass away without a plan in place, you'll leave heirs without clears instructions, potentially jeopardizing the business you've worked so hard to build.
"Small business owners need to plan for their estate even more than the average person does," says CPA Kelley Long. "Not doing so can destroy your family and business. And a good estate plan can take years to put in place, so this is not a conversation you want to procrastinate on."
Add in the fact that your business likely accounts for the largest component of your net worth, and it's easy to see why you should take some time to work on the future of your business—by meeting with an estate planning attorney to talk about these six key components of a solid estate plan.
At the very least, your estate plan should include a will. This document allows you to specify how you want your assets to be transferred, and to whom, after you die. It also lets you identify an executor who will take charge of those assets and manage their disbursement according to your instructions.
You'll also want to include a provision that gives your executor or another trusted individual access to a list of all online bank accounts, email accounts, file sharing sites, social networking sites, and their corresponding passwords. If you're the only person running the business, important information will be inaccessible to heirs if you don't provide this access. In some states, not even family members or appointed fiduciaries can get into these accounts if they don't already have the information. Nor can they force companies to give them access, says estate planning attorney William Sanderson, co-chair of the American Bar Association's real property, trust and estate law business planning committee.
This is why you'll want to keep a document detailing all your accounts and passwords in a secure place that you can also easily access to update as needed.
"My most prepared client keeps a notebook filed with all his important papers locked away in a safe. He updates this list and his notebook regularly," says Sanderson. "I recommend other small business owners try and implement the same strategy and let a spouse or trusted person know how to access them."
Like a will, a trust allows you to control what happens to your assets after you die. But this legal entity has several advantages over a will. Any items you place under the ownership of the trust will bypass the probate process. Thus assets owned by the trust can be transferred to heirs much more quickly; your estate will remain private; and, depending on the kind of trust you set up, it could dramatically reduce the legal fees and estate taxes your estate or heirs will have to pay. And with a revocable or living trust, the terms and assets can be easily changed if your decisions change.
Power of Attorney
When you have payroll obligations, you should consider creating a durable general power of attorney document, which allows you to name an individual to carry out your business affairs should you become incapacitated, says Sanderson. If you don't have this in place and something happens to you, the court will appoint a guardian to handle your affairs. "It can add a lot of stress to a business owner's life at a time when they don't need any added stress," says Sanderson. "This little bit of extra work upfront could save a lot of headache should it ever be needed."
If your business has multiple owners, a buy-sell agreement is a must. This contract establishes an agreed upon plan for the business's future should one owner die or become incapacitated, says financial planner Paul Pagnato, who specializes in advising business owners. It defines a sale price for the business and your share, and allows you to document whether or not you want your partners to buy out your share, whether you want to block certain people from stepping into the business, or if you'd prefer family members to sell your portion. Since the price has already been determined, your family will have piece of mind that they are receiving a fair price.
Without one, your beneficiaries may be stuck running a business they have no interest in, don't want, and can't sell—and your partners may end up with a partner they never anticipated and don't wish to work with.
Negotiate this agreement when the business is still young and all the owners—as well as the business itself—are healthy. "You want everyone to approach this decision with clear eyes and reasonable thoughts," says Sanderson. Pagnato recommends drafting the agreement as soon as the business has value and cash flow is positive.
To raise the funds necessary to buy out a deceased partner's share under a buy-sell agreement, the living partners often need life insurance. Each partner should purchase a term life insurance policy and name the other partners as beneficiaries. Or you could set up an irrevocable life insurance trust to avoid having the insurance proceeds count as part of your taxable estate. This will ensure that surviving owners receive tax-free capital to purchase the other's portion of the business from the estate. "This does not have to come out of your pocket. It is a business expense and you should have the business pay those insurance premiums," says Pagnato.
Whether you co-own the businesses or are the sole owner, you should also buy a separate term life insurance policy that names your spouse and children as beneficiaries. This will give your family time to adjust to life without your income and avoid financial hardship. Especially since a buy-sell agreement will take some time to complete and insurance can provide funds if there aren't other sizable resources. For help determining how much life insurance coverage you should purchase, use this guide.
If you're a sole proprietor, you need a clear plan for what should happen to the businesses when you die. If you want to pass on the business, you need to begin delegating and preparing a successor. Be certain first that this person wants the role. If you'd prefer that the business be sold, help your heirs by doing research ahead of time that will make selling easy and inexpensive. Plus, your family won't need to worry about whether they got a fair price for the businesses.
To prevent disagreements and ensure that things happen as you want them to, Sanderson recommends creating a document that outlines your wishes for the business's future. You should clearly lay out important information about what the business owns and owes, and include a detailed list of of accounts and passwords. In addition to your family, Sanderson recommends involving professional advisers (like your financial planner or lawyer) as well as key employees and managers.