Common Succession Scenarios
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A business succession plan can help you make important decisions about future ownership, maximizing your company’s value and optimizing tax strategies. Succession plans should touch on some of the following areas: importance of timing, goals and objectives, developing a future vision for the business, and determining your retirement or post business ownership goals.
A key consideration is the timing for business succession. Many don’t consider this until the business owner is thinking about leaving. This may work in some circumstances, such as the selling to a third party but it also may limit your options if such a scenario doesn’t present itself. An ideal succession plan should take place 10-15 years before a business owner considers leaving or relinquishing control of some of the ownership or the running of its day-to-day activities.
Choosing a Successor
The next consideration in your succession plan is who should be your successor. Whether this is a potential family member, existing business Partner, key employee(s), third party company or whether you just want to wind the business down, careful consideration should be taken with each scenario. With regards to family member or key employee succession plans, do you want to at some point consider imposing an estate freeze, thus passing on the future value and tax liability to the purchaser. In some cases, this may also make the purchase price of the business more attainable or take sweat equity into consideration.
Valuing Your Company
What is the real value of my company? This looks much different from a buyer or seller’s perspective. It’s been said a business’ worth is what someone is willing to write a cheque to purchase but careful consideration needs to be weighed beyond the balance sheet and times earnings ratios. Strategies can be undertaken to ensure that the business seller gets the deemed value out of the company and the buyer is willing to pay a premium for the asset. Once again, timing is a key consideration when piecing this scenario together.
How can you do this tax-effectively? In selling a business, the federal government allows you a personal lifetime Capital Gains Exemption (in 2016, the amount is $824,177) however there are several financial litmus tests that your company must pass in order to be eligible. An estate freeze may be one such strategy but if you sell your business for $10 million, you will still be taxed upon $9,175,823. Family Trusts may also be set up which may greatly reduce your tax burden on your company’s sale but chances are you’ll still have a considerable tax bill based upon $5 million+. You probably don’t remember CRA sitting with you through the pains of growing your business but they will be there to capitalize upon your hard work.
Several strategies can be undertaken as early as possible to minimize your future tax burden. Time is the only commodity that cannot be reversed when dealing with strategies around your succession plan.