1. Business Succession Planning
Vincent J Gallo CLU ChFC AEP
Vincent J Gallo & Associates, Inc.
Winston-Salem, NC

2. Agenda
• Overview of business succession planning
• Estate planning fundamentals
• Business succession planning techniques

3. Overview of business succession planning
• More than 80% of businesses in the U.S. are private and/or
family dominated
• Businesses owned or dominated by the members of a
single family make up 175 of the Fortune 500
• International Family Business Program Association
estimated that family firms contribute 60%-75% of the
U.S. G.D.P.

4. Overview of business succession planning
• Closely held businesses have an extraordinary
failure rate:
– 70% do not survive to the second generation
– 85% do not survive to the third generation
– The average family owned business lasts only 24 years

5. Estate planning fundamentals
• General Rule - All asset transfers are
taxable
– Exceptions
• Marital transfers
• Annual gifts
• Tuition or medical expenses
• Charitable gifts
• Unified credit (or “lifetime exemption”)

6. Estate planning fundamentals
• Qualified Family Owned Business Exclusion
– Additional exclusion is available for qualified family
owned business interests (QFOBI)
– Can increase overall exclusion amount to $1,300,000
– In order to qualify
• QFOBIs must exceed 50% of the gross estate
• Decedent or member of family must have “materially participated”
in business for at least 5 of last 8 years
• Situated in U.S.
• Other qualification requirements

7. Minimizing Estate Taxation
• Best way to reduce overall estate taxation is
through “Estate Reduction”
• Reduce the value of the taxable estate
– without losing control
– while retaining cash flow
– paying minimum transfer taxes

8. Wealth transfer techniques
• Five techniques for business succession
planning
– Buy/Sell Agreements
– Family Limited Partnerships
– S Corp Recapitalizations
– Employee Stock Ownership Plans
– Intentionally Defective Grantor Trusts

9. Wealth transfer techniques
• Technique #1: Buy/Sell Agreements
– Agreement among Company and Shareholders to buy
stock from shareholders upon certain events:
• Disability
• Retirement
• Death
• Divorce

10. Wealth transfer techniques
• Technique #1: Buy/Sell Agreements
– Two Types of Agreements
• Stock Redemption - Company buys stock from shareholder
• Cross Purchase - Other shareholder(s) buy stock from shareholder
• Common to use insurance or borrowing to provide funding
– How it works
• Company and shareholders enter into agreement
• Upon specified event, affected shareholder must sell stock to
company and/or other shareholders

11. Wealth transfer techniques
• Technique #1: Buy/Sell Agreements
– Price is either set annually, or more likely, an appraisal
process is outlined in the agreement
– Advantages
• Provides protection to the company and shareholders
• Provides liquidity to shareholders
– Disadvantages
• Accomplishes only minimal estate planning
• No wealth transfer achieved

12. Wealth transfer techniques
• Technique #2: Family Limited Partnerships
– Family Limited Partnership (“FLP”) is a limited
partnership established under state law
– There are 2 classes of partners:
• General Partner - Very little economic interest (typically 1%) but
virtually all management control
• Limited Partner - Virtually all of the economic interest, but very
little management control
– Donor contributes assets to the FLP in exchange for both
general and limited partnership interests

13. Wealth transfer techniques
• Technique #2: Family Limited Partnerships
– Donor makes gifts of limited partnership interests to next generation.
• Annual exclusion
• Unified credit
– Valuation discounts are often taken. The two types:
• Lack of marketability
• Lack of management control (minority interest)
– Retention of general partnership interest allows senior generation to
retain control while transferring value out of taxable estate.

14. Wealth transfer techniques
• Technique #2: Family Limited Partnerships
– Advantages
• Discounts
• Separation between ownership and control
• Consolidated management of assets
• Potential asset protection
– Disadvantages
• Separate entity which requires administration and tax returns
• General partner has fiduciary duty to limited partners
• IRS scrutiny

15. Wealth transfer techniques
• Technique #3: “S” Corp. Recapitalization
– What is it?
• FLP-type technique for “S” Corporations
– “S” Corporation
• Cannot be owned by a partnership (FLP not available)
• Cannot have more than one class of stock
– However, “S” corporation can have more than
one kind of stock (voting vs. non-voting)

16. Wealth transfer techniques
• Technique #3: “S” Corp. Recapitalization
– “S” Corporation is recapitalized to have:
• Voting common stock
• Non-voting common stock
– Gifts of non-voting common stock are then made to the
next generation
– Discounting available:
• Lack of Control
• Lack of Marketability

17. Wealth transfer techniques
• Technique #3: “S” Corp. Recapitalization
– Advantages
• Discounts
• Separation of ownership and control
– Disadvantages
• Potential premium placed on the voting stock
• Wealth transfer is not accomplished without additional gifting or
other transfer techniques

18. Wealth transfer techniques
• Technique #4: Employee Stock Ownership Plan
– Closely-held company establishes an employee stock ownership plan
(“ESOP”)
– ESOP borrows funds to finance purchase
– ESOP purchases stock from principal owner(s)
– Selling shareholders may elect to reinvest the proceeds in “qualifying
replacement securities” in order to defer capital gains tax
– May leverage against bonds to finance diversification
– Capital gains are deferred until replacement securities are sold, or
eliminated entirely if held until death or donated to charity

19. Wealth transfer techniques
• Technique #4: Employee Stock Ownership Plan
– Advantages
• Owners/Sellers
– Provides liquidity
– Diversification without paying current taxes
– Beneficial scenarios
• Retiring shareholder
• Creation of a market for company stock
• Relieve company of cash surplus
• Employees
– Become owners of corporation (motivation)
– Retirement benefit

20. Wealth transfer techniques
• Technique #4: Employee Stock Ownership Plan
– Disadvantages
• Must have individual(s) who are willing and able to continue business
after current owners have sold
• ESOPs are effective but are subject to many rules and regulations and
should be considered only after a thorough examination of all factors
involved

21. Wealth transfer techniques
• Technique #5: Intentionally Defective Grantor Trust
– Accomplished by selling asset (stock) to trust in exchange
for a small cash down-payment and a long-term installment
note
– “Freezing” Technique
• Freeze value of an asset
• Freeze return on an asset

22. Wealth transfer techniques
• Technique #5: Intentionally Defective Grantor Trust
– Trust
• Usually children are beneficiaries
• Defective - income taxes are paid by grantor
• Income taxes paid on trust income are not additional gift
– Sale to trust
• Business owner receives cash and installment note for balance
• No capital gain on sale
• Installment obligation is paid through income received by trust

23. Wealth transfer techniques
• Technique #5: Intentionally Defective Grantor Trust
– Advantages
• No income taxes on sale to trust
• Payment of income taxes on trust does not create additional gift
• Trust can control timing and amount of distributions to
beneficiaries
– Disadvantages
• Cash flow may be insufficient to pay installment obligation
• Seller’s estate will include balance of outstanding note
• Undistributed trust income is subject to higher trust tax rates

24. Business succession planning
• Summary
– A number of techniques exist to minimize
estate tax exposure while achieving owner’s
wishes
– A number of factors influence the choice of
which technique(s) is appropriate
– Whichever technique is used, should be part of
a comprehensive financial and estate plan

25. Wealth transfer techniques
• Technique #2: Family Limited Partnerships
Parents transfer Family Limited
assets to partnership
Partnership
in tax-free exchange
Gifts 99% Limited 1% General
Children
Partners Partner
Grandchildren

26. Wealth transfer techniques
• Technique #4: Employee Stock Ownership Plan
Cash Qualified
Business
Replacement
Owner(s)
Securities
Stock
Cash
“C” corporation
Retirement Contributions
Employee Stock
Ownership Plan
Cash
(must own 30%
Bank of company)
Interest & Principal
Payments on Note

27. Wealth transfer techniques
• Technique #5: Intentionally Defective Grantor Trust
Cash (gift)
Parents Grantor Trust
Company Stock Grantor Trust
Cash and
Parents
Company
Cash and
Stock
Note Receivable
Beneficiaries

28. Final Thought
• Having a Good Estate Plan Will Not
Accelerate the Date of Death

29. Overview of business succession planning
• Private companies have key advantages vs. public
ownership
– Typically, no separation between ownership and control
– Investors have longer term perspective
– Management invests less personal and financial capital
in managing investor expectations
– Flexible organizational structures

30. Overview of business succession planning
• Objective forward planning is critical
• Advance planning permits balancing of
income, charitable and family wealth issues
• Estate taxes are confiscatory yet elective

31. Overview of business succession planning
• Effect of Estate Taxes Without Planning
Your Family's Share of Your Estate
The Government's Share of Your Estate

32. Overview of business succession planning
• Effect of Estate Taxes With Planning
Your Family's Share of Your Estate
The Government's Share of Your Estate
Estate Tax Savings???

33. Marketing Strategy
• Review All Succession Alternatives
• Don’t show bias to one technique
• Optimize transfer transaction
• Control
• Valuation
• Identify Liquidity Need
• Cost Out Alternatives
• Installment Sale at Death
• Loans
• Life Insurance
• Identify Funding Alternatives
• Term of payment
• Leverage

34. Questions or
Free initial Consultation
Please contact:
vincegallo@vincegallo.com
Or
336.765.0122