Business succession and your estate: Top considerations for business owners and entrepreneurs

There comes a time when most business owners need to decide what to do with their company when they retire — and how this transition fits into their broader estate plan.

For many, those decisions should probably be made relatively soon. Nearly three quarters (72%) of Canadian business owners are expected to transition their business in the next decade, according to a 2018 survey from the Canadian Federation of Independent Business (CFIB). Yet, among the roughly 2,500 small business owners the CFIB surveyed, only 49% said they have a succession plan in place. Among those, only 8% described it as a formal written plan.

“More owners need to undertake formal planning,” CFIB states in its report. “Ultimately, succession planning is not only critical for the continued success of the business, but also for Canada’s competitiveness and economic prosperity.”

Planning helps to reduce business risk and increase family peace

It’s important business owners have both a succession plan and an estate plan — and that the two are aligned, says Mark Skeggs, vice-president of Wealth Planning at Gluskin Sheff.

Owners without these two plans are putting their companies and their families at risk, he says, especially if they were to pass away suddenly.

“If you have a business and die without a will, the courts could end up controlling the company’s shares until they determine who the next shareholders are,” Skeggs says.

An integrated estate and business succession plan can also save you time, money and headaches when it comes to business and family dynamics.

“The question is, ‘do you have the right plans in place to allow not only for the business to succeed, but the family as well?’” Skeggs says. “Coming up with a thoughtful and effective succession plan can help to ensure that.”

Options for passing on the business

The planning process often begins with clients assessing the nature of the business, including whether it can be sold or transferred (not all businesses can), as well as the owner’s retirement goals.

For instance, an owner might wish to sell to a third party, or sell or transfer the business to one or more children or other family members. The CFIB survey shows nearly half (48 per cent) of business owners plan to sell to third parties, while others prefer to pass their business on to family either through a sale (25 per cent) or a transfer (21 per cent), such as an inheritance.

Owners who want to keep the business in the family need to ensure one or more children want to take over the company. For children who aren’t interested, Jordaan says owners may need to find ways to divide their assets fairly.

“Most families want to treat their children equally,” she says. “There’s no one-size-fits-all solution. It really has to be approached from an integrated and holistic perspective.”

Tax-efficient succession planning

Owners also need to consider how to sell or transfer their business in a tax-efficient way to maximize the value of their shares. If selling, with proper tax planning in place, business owners can potentially qualify for the lifetime capital gains exemption ($883,384 in 2020) with respect to the accrued gains on corporate shares.

Owners can also transfer future growth in the business through an estate freeze, which allows them to lock-in the current value of their shares and defer income taxes on any capital gains until an actual or deemed disposition.

With a freeze, new shareholders are issued new shares that track the future growth of the business. Many owners use this strategy to transfer their business to the next generation, while still retaining control until they are ready to hand over the reins.

Skeggs says an estate freeze can provide “significant tax savings,” while also facilitating an orderly transition of the business to the next generation.

Owners who have business partners can also use life insurance to fund a buy/sell agreement, which sets ground rules for how the company’s shares should be handled if an owner becomes incapacitated or passes away. The insurance proceeds can be used to provide a cash payment that the remaining owners can use to buy out an incapable or deceased owner’s share of the business, without having to use personal funds or business assets.

Skeggs says a life insurance strategy can also prevent the deceased’s beneficiaries from becoming active in the business, which is often best for all parties involved.

Life insurance can also be used to equalize the beneficiaries of an estate. For instance, if a business owner has three children, and only one wants to take over the company, the business owner can equalize the other two children by leaving them life insurance proceeds.

Skeggs also notes that life insurance policies are paid out to beneficiaries on a tax-free basis, which is an attractive feature for many business owners.

Keeping succession and estate plans current

Business owners need to ensure their succession and estate plans are up-to-date. A lot may have changed in their business, or their personal life, since the plans were last reviewed. For instance, the business may have grown significantly, the corporate structure may have changed, or new business partners may have come into the picture. On the personal side, a business owner may have remarried or had more children or grandchildren whom they’d like to benefit when they pass.

More and more business owners are revisiting their plans amid the COVID-19 pandemic, says Tiffany Harding, vice-president and head of Wealth Planning at Gluskin Sheff, either because their business has changed significantly or they’re thinking more about illness and death in the midst of the crisis.

* Please note there are references to employees who are no longer with the firm, but were as of the date of publication.

Harding recommends owners assemble the right team of business, financial and legal advisors to handle their business and succession plans, to ensure they’re integrated and coordinated. She also recommends business owners consider creating or updating their plans sooner rather than later, and to be patient during the process.

“Estate and succession planning for business owners isn’t something that can be done overnight. It really does take some time to arrive at the right solutions and strategies,” Harding says.

Skeggs encourages owners without a plan to at least put something basic together as a stop-gap to protect their family and business.

“A good plan today is better than a perfect plan a year from now, so don’t wait,” he says.

For key considerations on updating your wills and powers of attorney, please download our guide.