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7 Reasons to Think about Estate Planning When Starting a New Business

With everything that has to be done in order to begin a new business venture, it is easy to assign estate planning to the bottom of the list. The assumption is that estate planning and business development belong in two separate categories. Nothing could be further from the truth! Starting a new business is actually a great opportunity to begin getting your affairs in order. That is because the evaluation, planning, and implementation process that surrounds starting a business should be a natural call to action for planning your estate. Below, there are seven ways that planning your estate will also help you make your business the best it can be.

Starting the Conversation

The idea of providing for your loved ones after your death is something most people agree is vitally important. Yet, with so many unwilling to begin basic estate planning, experts have wondered why it is so hard to convince people to move forward. Multiple issues might hold people back from estate planning, including the following: 

  • Avoiding thinking of death as a natural part of life
  • Not knowing where to begin or who to talk to in order to start the process
  • Believing that they do not have enough assets to make a will, trust, or other necessary plan

Simply talking about these three variables is enormously helpful in facing the future. When you begin to talk about life goals and what you will leave behind, you might decide that your business will be the best legacy you can give to your loved ones. This opens new possibilities about the future—possibilities that include growing and nurturing a company. Starting a conversation has great benefits on estate planning. 

If you are a business owner, then estate planning is definitely necessary and urgent. If you pass away without a will, trust, or other plan, then your assets will be divided according to the regulations of the state where you live. Applicable taxes will need to be identified, and there is no guarantee that your actual wishes will be observed. This can cause significant problems for your surviving loved ones.

What Is Estate Planning?

An estate includes all of your belongings, money, and investments. The word "estate" may conjure up visions of opulent wealth, but the word itself means everything you own, like cars, accounts, collectibles, heirlooms, furniture, and anything else that belongs to you.

Regardless of how much money you have, estate planning starts with the concept of a will. A last will and testament is the legal document used to distribute a person's possessions and give instructions to the person’s family after the person dies. While it's possible to create a simple will, the complexity of individual circumstances often warrants a keen eye to ensure the will is valid and effectively carries out the testator's intentions. Regardless of your specific circumstances, it is generally recommended that you have a simple will, even if you are healthy; as we all know, accidents happen. This is particularly true for entrepreneurs, who may have several projects in development at one time.

A living trust is a funded instrument that provides for management of your assets, including property and business interests. The trust can also be established to manage your property after you die. A trust gives you maximum control of your affairs. You may be the trustee while you are living and name a successor trustee after your death. This is an effective way to avoid intervention by the courts.

A living trust allows you to do the following:

  • Prepare for the unlikely event of your own incapacity due to illness or disability
  • Keep your financial affairs from becoming public records through the court system
  • Avoid probate court
  • Decide what happens to your property after your death

What Is the Difference between a Last Will and a Living Trust?

A last will and testament takes effect at someone’s death. The will names a person to act as an executor of the estate who is responsible for carrying out the individual's wishes and disbursing the individual’s property and assets accordingly.

A living trust takes effect immediately after it is signed. This means it is active while a person is still alive. Any assets or property can be placed into the trust and the grantor can maintain complete control over the property and assets allocated to the trust as long as they live.

Although a will and trust can work for an estate of any size, many people feel that the will and trust option is only for those who are wealthy with many assets. However, a trust is an option for anyone who wants to combine a pool of assets, like cash, property, or investments, for the benefit of another.

In general, everyone should have a will, but when should an adult also have a living trust? The following are factors that adults should consider when estate planning:

  • Minor Children – If you have minor children, a will can name a legal guardian to take care of the children after your death. With a trust, the children can begin receiving benefits of the trust during your lifetime. After a person’s death, an appointed trustee will administer the trust assets according to the wishes of the person who created the trust.
  • Probate – A living trust effectively avoids probate where a last will might not, and is one of the best ways to avoid probate. One of the purposes of probate is to determine the disposition of the property you leave at death. The trustee of a living trust officially owns the property, which means there is no need for probate.
  • Estate Taxes – For purposes of income taxes, the grantor of the living trust is still considered the owner of the assets within the trust, regardless of who is the trustee. A living trust and last will and testament both can be drafted with some tax-saving provisions. However, like death itself, taxation is unavoidable. Neither instrument will allow you to eliminate taxes entirely.

The most important takeaway from the debate about last wills and living trusts is that they are not either/or. In many instances, it is advisable for a person to have both a living trust and a last will and testament.

Using a Buy-Sell Agreement to Determine Who Can Purchase the Business

When a person owns property with more than one person, or they are part of a company, corporation or partnership, it is a good idea to create a buy-sell agreement. What is a buy-sell agreement? Also known as a buyout agreement, a buy-sell agreement is a legally binding agreement between co-owners of a business that governs the situation if a co-owner dies, is forced to leave the business, or otherwise chooses to leave the business.

Businesses should create a buyout agreement as soon as the business is formed. The agreement not only protects ownership when a person passes away, but it also operates to protect the business when one person decides to leave, retire, divorce, or sell their shares to someone else. The importance of having a buy-sell agreement cannot be overstated. The more successful the business becomes, the greater its value. However, the more valuable the business is, the more financial risk is created for the partners in the event that one person dies, becomes incapacitated, or wants to leave the company.

A buy-sell agreement forces you and your co-owners to discuss how to handle the business and its assets if one person leaves for any reason. If the ownership decides that they would prefer to make it hard to sell the company, then contract provisions can be drafted that may call for difficult payment schedules, requiring a substantial payment up front. General partnership agreements often incorporate the buy-sell provisions into the agreement, which is something you should not overlook when incorporating your company. Shareholder agreements also help you mitigate risk by identifying the best structure for the company, determining the rules of succession, and contingency planning.

Maintaining Life Insurance for Security and Financial Flexibility

Life insurance is designed to protect an individual against death by ensuring that a beneficiary will receive money upon the individual’s death. Everyone can benefit from life insurance. Starting a business impacts on the type of life insurance a person should have for their family. As a business owner, your needs are going to be different than a person who works a regular 9-to-5 job.

Protect the Future of Your Business

Term or permanent life insurance policies can provide another kind of important benefit to business partnerships: helping you and your partners plan for the future of your business.

Term life insurance pays a benefit in the event of the death of the insured during a specified term.

Some of the biggest financial concerns facing businesses can be ameliorated by life insurance. In general, most companies have five key financial concerns:

  • Planning for the future
  • Tax minimization
  • Cash flow management
  • Financing capital expenditures
  • Providing employee benefits

To plan for the future, small businesses in particular need a succession plan. Life insurance can fund a buyout agreement. Business owners could agree to take out a life insurance policy on the other person, in order to ensure that if one partner dies, the other can afford to buy them out.

Key employee policies also ensure a company protects their investments in one of their best assets: top employees. In the event of the key employee’s death, the company would receive two or three times the amount of the employee’s salary.

Life insurance can also be used as an estate balancing tool for people who have several adult children with varying degrees of involvement in the family business.

Insurance is another way to minimize a company’s tax burden. The government does not tax the growth of life insurance cash value. Since cash value accounts grow tax-free while within the policy, cash values can be accessed without taxation.

Cash flow management is easier if the business has made good use of life insurance. Small businesses tend to operate with as little overhead as possible. However, this does not obviate the need for access to emergency cash. Since saving money is difficult, life insurance provides companies another way to access money by borrowing against the cash value of the policy.

In addition to borrowing against the value of the policy, merely having a policy might make the business more creditworthy, which makes it easier to obtain funding from other sources.

Small business owners have found it easier to obtain life insurance loans to finance major equipment acquisition. This is especially true for farmers and others who may pay high rates for equipment loans. Life insurance loan interest amounts are not only lower, but the borrowing process is much simpler.

Keeping the best employees is difficult. In a competitive environment, employers usually can offer benefit packages to make employment more attractive. Insurance is one more way to keep employees. Life insurance can be used to offer deferred compensation to qualified employees. Non-qualified deferred compensation plans are also flexible benefits, since they use contributions by employees. Specialized life insurance also can be offered as a retirement benefit.

Using Power of Attorney to Protect Family Businesses

Although some people believe that estate planning is less relevant to small businesses, the opposite is actually true. Small business owners usually have greater financial risk and more obligations to more people. One consideration for small business owners is protecting the functioning of the business in case you become incapacitated. Although no one likes to think of these things, financial planners often say “life happens.” If life happens to you, it also happens to your small family business.

A “power of attorney” is a legal document that gives legal authority to another person, often referred to as an agent, to make property, financial, and other legal decisions on behalf of the principal (the person who executes the document). The agent need not be an attorney; any person who is a competent adult can be appointed for this role. Agents are legally obligated to undertake their responsibility on behalf of the business, not for their own self-interests.

Having a durable power of attorney document gives the business owner the ability to appoint someone to manage the business’ affairs, including protecting payroll, signing documents, and making financial decisions. If a small family business does not have a power of attorney or other binding legal document, a court may get involved by appointing a guardian who will then assume control of the company.

A general power of attorney is usually given for a specific period of time. A durable power of attorney is permanent and ends only at the person’s death. The agency relationship between the person and the delegated authority will automatically function when a person is incapacitated, as the agent steps in to the person’s shoes legally in order to make decisions about business, financial, and property interests. When the incapacity is over, the person can resume control without any involvement of the court.

Accounting for Digital Assets

For young people who do not own a house or a car, a will may seem unnecessary. However, we live in an era where “assets” is a much more elastic concept. Most young people have accumulated digital assets. Computer hardware, electronic data, social media accounts, and social commerce accounts may all have value after a person dies. Identifying your digital assets and making a written plan about how they should be handled after your death is another important thing to include in a will.

Aligning Retirement Accounts with Your Wishes

If you have retirement accounts like a 401k plan, then you must make sure your beneficiary designations are up to date. People have a tendency to fill out paperwork for the retirement accounts only once, forgetting to update them when major life events, like marriages and children, finally happen. Unfortunately, retirement plans tend to operate under a different set of rules, so you can’t count on probate courts to override the documents you signed. It's important to note that bank accounts, insurance policies, and other contracts may have directives that supersede state law. That is why everyone should have a will and carefully review all contracts to ensure that your wishes will be legally enforceable.

Conclusion

When you are setting up a new business, the prospect of planning your estate can prompt productive conversations with your family and business partners about how the business assets will be handled. This will in turn encourage everyone to consider what happens to the business, whether a person can sell their interest, and how incapacity or death could impact the way the company is able to function. Having a will is not as scary as it seems. When in doubt, simply use a last will and testament and write down exactly how you want your business and personal affairs to be handled in the event of your death.

Use our living trust form, last will and testament form, and power of attorney form to get started creating your estate planning documents today.