Estate Freeze and Other Transition Strategies

The following article was recently featured in Business In Vancouver‘s January 2016 special feature on Retirement Planning. 

When was the last time you met with your financial professional to discuss your business transition plan, your will, the status of your family trust and the structure of your business holdings? If you are in your 50s or older, that time is now. It can be a hard and time-consuming process, so the sooner you start the better.

Start with your will

The will drafting process is an important step as it helps identify the family’s assets available for distribution and the list of potential beneficiaries. Sit down with your financial advisor and review your will.

Implement an estate freeze

The succession planning process should not only address the family’s personal assets, but it should also lead to a discussion of the ownership of the family’s business entities. As part of this process, you should consider implementing an estate freeze to minimize the deemed capital gains that will arise on the death of the survivor of mom and dad. Typically, this will involve the creation of a family trust to hold the newly issued growth or common shares. The focus of such a trust is the shifting of the growth in value of the business and the related taxes to the next generation.

Part of the estate freeze process should also be to consider the availability of the capital gains exemption (CGE). Many successful mature businesses do not qualify for the CGE because of their very success. Unless appropriate tax planning steps involving a holding company and a family trust are undertaken well in advance, that annually indexed exemption of some $800,000 of capital gains per individual will not be available.

If the principals of the family business are aged 65 or older, consideration should be given to implementing their will immediately through an alter ego trust (AET) or joint partner trust (JPT). The use of an AET or a JPT not only avoids the 1.4 per cent estate duties but more importantly limits the ability of family members to launch a wills variation application by avoiding testamentary dispositions. An additional benefit is that it will allow family members to step in and take voting control of the company if mom and dad are facing dementia issues – a role that cannot be fulfilled under a power of attorney.

You should also consider the use of a corporate will to devolve assets that do not require government registration for their transfer, such as shares of a private company. The corporate will avoids the 1.4 per cent estate duties in B.C., and also avoids public disclosure of family assets as is the case with transitions through an AET or a JPT.

Who gets control?

One of the first steps is identifying the successor. If the business is to stay in the family, most likely the principal will know who that person is. Sometimes, it is not so clear. In any event, a family discussion about the control and management of the family business after mom and dad are unable to carry on can be invaluable in setting the stage for the successor(s).

In order to facilitate a smooth transition of the family business it is highly desirable that the business be controlled through a shareholders’ agreement so that all family members have a clearly defined roll. The goal of such an agreement is to prevent fighting for control of the family business interests. Often, failure to win acceptance from other family members can leave the business under attack and make life more difficult for the successor.

Not just a family affair

Keep in mind that the views of your children’s spouses may skew the family planning and in many cases the family patriarch and matriarch may simply have to lay down the law. Indeed, it may become obvious that the only realistic plan is to sell the business to a third party or to a group of key employees. Getting the business ready for sale and finding a qualified buyer requires lots of lead time if it is to be done in the most financially viable manner. If there are employees capable of carrying on the business, getting their buy-in and locking them up early can ensure a successful transition. Ultimately, a lack of transition planning combined with the loss of the driving force behind a business can doom even the most successful businesses.

While a smooth transition to the next generation may be difficult to achieve, a well-thought-out succession plan with family buy-in can save a lot of grief down the road, and that means savings in legal and accounting bills, as well as income taxes.

William (Bill) Cooper is counsel with Boughton Law of Vancouver. His more than 40 years of tax and financial experience includes working as an advisor at the most senior levels of the Canada Revenue Agency and the Department of Finance in Ottawa. Cooper is also the editor-in-chief of Executive TaxBriefs, a monthly tax publication dedicated to the tax concerns of business owners and managers.