Life insurance can play an necessary role in an exceedingly business succession plan. Following are a number of the common ways in which in which life insurance will be integrated with many of the tools, techniques, and strategies commonly utilized in business succession planning.

Estate Liquidity. Some business homeowners will wait till death to transfer all of their business interests to one or more of their children. If the business owner incorporates a taxable estate, life insurance will offer the youngsters receiving the business the cash necessary for them to pay estate taxes. Using life insurance (owned by an irrevocable trust) to pay estate taxes is significantly useful to business owners because business interests can’t be readily liquidated. Life insurance is additionally a abundant easier (and less expensive) various to deferring estate taxes under IRC Section 6166. The youngsters receiving the business may also need life insurance to pay estate taxes at their deaths. Sometimes, the insurance policy can be owned by an irrevocable life insurance trust thus {that the} beneficiaries can receive the death proceeds both income and estate-tax free.

Estate Equalization. A business owner can use life insurance to produce those youngsters who are not involved in the business with equitable treatment. Leaving the business to the active children and life insurance (owned by an irrevocable trust) to the inactive children equalizes the inheritances among all of the children. It conjointly avoids the requirement for the active youngsters to buy the interests of the inactive children – maybe at a time when the business might be unable to afford it. Depending on the particular facts and circumstances, the insurance could be owned by an irrevocable trust for the good thing about the inactive kids, and therefore the insured(s) could be the business owner or the business owner and his spouse.

Purchase-Sell Agreements. A properly designed buy-sell agreement can guarantee a market and truthful price for a deceased, disabled or withdrawing owner’s business interest; guarantee control over the business by the surviving or remaining house owners; and set the price of the business interest for estate-tax purposes. Life insurance is the simplest manner to provide the money necessary for the business or the surviving owners to get a deceased owner’s interest. In many instances, the money surrender worth in a very life insurance policy can additionally be used tax free (by surrendering to basis and borrowing the surplus) to help purchase a lifetime purchase of a business owner’s interest.

Nonqualified Deferred Compensation Plans. A nonqualified deferred compensation (“NQDC”) arrange can be employed by a little business to provide members of the senior generation with death, disability, and/or retirement benefits. An NQDC plan could be particularly helpful in those things where the senior members have transitioned the business to the junior members and are not receiving any compensation from the business. An NQDC set up is additionally helpful to confirm that key workers stay with the business throughout the transition period – a thus-referred to as golden handcuff. As a result of life insurance offers tax-deferred cash price growth and tax-free death edges, it’s the foremost standard vehicle for “informally” funding NQDC set up liabilities.

Key Man Insurance. Many family businesses rely on nonfamily employees for the corporate’s continued success. To guard against monetary loss because of the absence of an important key employee, several firms get rid of key person life insurance.

Section 303 Redemptions. IRC Section 303 permits an estate a one-time chance to remove cash from an organization (equal to the amount of estate taxes and administrative expenses), at very little or no tax value, through a partial redemption of stock. To make sure {that the} corporation has sufficient funds with that to accomplish the Section 303 redemption, the corporation can purchase a life insurance policy on the shareholder’s life.

Hedge Strategy. Life insurance will also be used to provide a “hedge” against the business owner’s premature death in connection with a grantor retained annuity trust. As an example, if the business owner established a GRAT and died before the end of the set term, the life insurance could be used to pay the estate taxes on the GRAT assets that would be included in the business owner’s estate. Additionally, if an acquisition with a private annuity is used, life insurance may provide funds for the business owner’s spouse (and/or alternative relations) since the annuity payments would terminate on the business owner’s death. Similarly, life insurance could provide funds for the business owner’s spouse and alternative family members ought to the business owner die prematurely when using a self-canceling installment note to sell the business interest. In all of these situations, it’s advisable to possess the life insurance owned by an irrevocable trust so {that the} insurance proceeds will escape estate taxes.

Family Bank. When the choice is created to depart the business to both active and inactive kids, it is sometimes advisable to go away the active children with voting interests and therefore the inactive kids with nonvoting interests within the business. In addition, place and decision options can be given. Usually, a place option given to the inactive children allows them to need the active children (or the business itself) to buy all or some of their interest in the business at a group worth and terms. While not a place choice, there may be no practical method for an inactive child to profit from owning the business interest unless and till the business is sold. Conversely, a decision choice given to the active youngsters (or the business itself) permits them to get the business interests of the inactive children upon a collection price and terms. Without a call choice, there may be no effective method for the active youngsters to avoid the potential conflicts that can occur between the active children who are receiving salaries and bonuses, and therefore the inactive youngsters who are not. By having the active youngsters own life insurance on the business owner’s life, a “bank” is formed to produce the funds to satisfy any such puts and calls. Sometimes, the policy will be owned outside of the business entity, like during a trust for the advantage of the active children or by a restricted liability company owned by the active children.

THIS ARTICLE MAY NOT BE USED FOR PENALTY PROTECTION. THE MATERIAL IS BASED UPON GENERAL TAX RULES AND FOR INFORMATION PURPOSES ONLY. IT IS NOT INTENDED AS LEGAL OR TAX ADVICE AND TAXPAYERS SHOULD CONSULT THEIR OWN LEGAL AND TAX ADVISORS AS TO THEIR SPECIFIC SITUATION.

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