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Washington Law Review

Abstract

By any measure, family-dominated businesses are the backbone of the American economy. Although a large majority of family businesses are managed by senior family members who are older than age 55 and more than 80 percent of such senior family members claim that they want the business to remain in the family, less than 30 percent of such businesses have tackled the challenge of developing a plan for transitioning the business to the next generation. For over 90 percent of such families, this planning challenge is aggravated by the fact that they have no diversified wealth: the family’s wealth is the business. This article examines the technical challenges of designing such a transition plan that meets the specific objectives of the family, including the family’s tolerance for complexity. Through the use of a simple case study, this article reviews essential elements that should be carefully evaluated in the design of any transition plan and explains numerous technical traps that must be avoided in the plan design. These elements and the related traps include timing considerations, valuation discounts, marital deduction planning, life insurance structuring, entity limitation and conversion options, compensation opportunities, and co-shareholder planning. The comparative benefits and inherent limitations of alternative transition strategies and business restructuring options are also illustrated, including the complexities and unique challenges of incorporating advanced estate planning strategies into the plan design. The article explains and illustrates why certain popular estate tax savings strategies, including the grantor retained annuity trust, the intentionally defective grantor trust installment sale, the self-canceling installment note, and the family partnership, often become problematic, inadvisable, or merely supplemental when the bulk of the family’s wealth is tied up in a valuable family business. The tax benefits, challenges, and risks of each of these strategies and others are explained, along with the practical problems that surface with a family business. The article also explores alternative strategies for anticipating and resolving conflicting interests between children who work in the business and children who have no career ties to the business. The purpose of the article is help professionals better understand the importance, magnitude, and difficulty of the intergenerational transition challenges of family-dominated businesses. As the article demonstrates, these are not challenges that can be met with stock solutions or quick fixes. Each situation requires a custom, strategic plan that, when implemented wisely over an appropriate period of time, addresses the core objectives of the family and avoids destructive traps and useless complexities. The ultimate goal is to design a plan that effectively incorporates a mix of strategies that accomplish the highest priority objectives at a level of complexity that works for the family.

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