Please remember that all clients are different and individual suitability should be determined. These case studies are presented as information only; actual results may vary. It is not our position to offer legal or tax advice. Seek the advice of a professional advisor prior to making a tax-related investment and/or insurance decision.
Dan Richter, 50 and his brother Brad, 45, took over their father’s electronics supply business five years ago when he passed away unexpectedly. They’ve expanded Richter Circuits, LLC from the original office to three locations around the region. Although they are 50/50 owners, Dan tends to take the lead for sales and major business decisions while Brad prefers to handle the day to day operations. Based on their EBITDA and recent sales of similar companies, the brothers estimate that Richter Circuits is worth roughly $12MM. Including the estimated value of their company, Dan’s net worth is $9.8 million, while Brad’s net worth is $7.6 million.
Both men are married, but Brad’s wife works in the business while Dan’s wife is a physical therapist. Dan’s son has been working full-time for the company for a number of years and he also has a daughter who is not employed by the business. Brad’s son is finishing high school and works part-time at the warehouse.
Due to the company value and the inheritance from their father, almost all of each family’s assets are owned in the brothers’ names. Their homes, personal property and checking accounts are owned jointly with their wives. Each wife has a retirement account of moderate size.
Dan recently finished updating estate planning documents, but Brad’s documents were out of date and exposed to significant estate taxes. When their father died, the brothers were shocked to find out how inadequate his estate plan was and how much money was spent unnecessarily.
BUSINESS AND FAMILY CONCERNS
Need a new Buy/Sell Agreement:
- The current buy-sell agreement is insufficiently funded with life insurance based on current estimates of Richter; the ability of the survivor to purchase ownership from the deceased’s family is doubtful.
- Disability isn’t even addressed in the agreement and company operations and cash flow would be adversely affected if one brother couldn’t return to work.
- Right of first refusal also isn’t addressed and shares could transfer outside of the family over time.
- If Brad died would his wife continue to work at Richter? How would that change if she’s a 50% owner
Company operations continuity:
- Beyond the insurance needed for share purchase, the brothers haven’t addressed the need for key man insurance on themselves or their CFO.
As Richter has grown, so has their need for a retirement plan and competitive benefits for employees.
The involvement of some family members in the business further complicates matters:
- How can the estate be passed equitably when so much of the value is in Richter Circuits?
- How can estate planning be done fairly when some family members have all the business risk, but ownership is divided?
- In the case of one brother predeceasing the other, the members of the deceased brother’s family could potentially face job loss if relations become acrimonious.
The buy-sell life insurance coverage is cross-owned (i.e., each owns the other’s policy), and both of them carry more than $1MM of personal insurance to protect their families. This may lead to unnecessary state and federal estate taxes—a lesson they learned from their father.
Recognize the intermingled factors that need to be addressed:
- Financial protection for each family;
- Continued operations of the company for the survivors and owners;
- Equalization of heirs in estate planning.
First, determine what the families really want to happen with the business in the event that one partner predeceases the other.
- Be honest and open about health considerations;
- And retirement plans/exit strategy.
Based on the desire to keep the family legacy ongoing
- Update the Buy-Sell to include realistic valuations, now and in the future;
- Increase the death benefit coverage;
- Add disability and right of first refusal sections;
- Implement a key man strategy so that operations and hiring can be sustained in the loss of a brother or critical employee.
Consider moving all personal insurance ownership out of the taxable estate of each family member (spouses included).
A formal gifting program could be developed to reduce the taxable estate of the brothers, reward the family members who participate in the business with Richter stock and provide cash or other value to non-employee heirs.
Create an employee census to determine the optimal retirement program for Richter Circuits given the expected growth in employees.
CRN – 3141647-062620