How to Add Liquidity to Your Estate Plan When You Own a Business
1. Buying life insurance is one the primary methods of adding liquidity to your estate plan. Consult an estate planning attorney and a tax advisor before purchasing life insurance. It is very important for tax and estate planning purposes that life insurance policies are owned by the right parties, that the proper beneficiaries are named, and that coverage is purchased in adequate amounts. For example, your advisors may recommend using a Cross-Purchase Plan, a Life Insurance Trust or another form of ownership for life insurance. When purchasing life insurance, you may need a valuation of your business to determine how much life insurance will be necessary to pay the costs of administering your estate and funding any buyout, stock purchase or other transaction contemplated under a Buy-Sell or Shareholders’ Agreement.
2. Keep adequate funds in bank accounts and other liquid assets such as publicly traded stocks, money market funds, and bonds. These types of assets are considered liquid because they can quickly be converted to cash to pay debts and expenses. Examples of illiquid assets include real estate, equipment, collectibles, and privately held stock.
3. Ask your estate planning attorney to include provisions in your will or living trust to grant your executor or trustee discretion to continue your business, sell assets of the business or take other steps that are necessary to keep the business afloat until a new owner can be found. Discuss your business succession plan goals with your attorney so your attorney can draft the appropriate language in your estate planning documents.
4. Ask your accountant or CPA for advice on how to provide liquidity in your estate plan. If you are considering buying life insurance as part of your estate plan, ask about methods of owning life insurance that will keep it out of your taxable estate for estate tax purposes. Also, there are tax-saving strategies that can often be used when purchasing life insurance on stockholders or business partners. Request information about other strategies that may help you achieve your business succession and estate planning goals.
Buy-Sell Agreements
To learn why you may need a Buy-Sell Agreement if you own a business, see our page on Shareholders Agreements.
More Information on Estate Planning for Business Owners
The following books provide more in-depth information about the unique estate planning issues facing business owners:
Why You Need Liquidity In Your Estate Plan When You Own A Business
1. After your death, your survivors may need cash to operate the business until all or part of the business is sold or until they are able to manage the business. The loss of an owner can be devastating to a business, irrespective of how much planning is done in advance. Without the cash to fund the business through the transition, it may be forced to close its doors.
2. If you have a Buy-Sell Agreement or Shareholders’ Agreement in place as part of your estate plan, there must be enough cash or liquid assets available to make the desired transaction under the Buy-Sell Agreement possible. Without the necessary liquidity, your spouse, partner, heirs and other beneficiaries may not receive the inheritance you intend them to receive.
3. Your estate may be hit with a large federal and state estate tax bill based upon the valuation of your business and other assets in your probate estate. Estate taxes typically must be paid within nine months of death. Without the necessary liquidity in your estate to pay the taxes, your business may have to be broken apart and the assets sold at a discounted value to pay estate taxes.
4. If your will or living trust provides for your children, grandchildren or other heirs to receive an inheritance in equal shares, but your estate plan provides for some of your beneficiaries to receive shares in the company while other beneficiaries are to receive an inheritance of non-business property, you may need liquidity in your estate plan to avoid the sale of company shares or business assets to provide an equal inheritance to each beneficiary.
5. When the sole owner of a business dies, the value of the business often drops dramatically. If the business has unpaid debts and expenses, the deceased owner’s estate may be unable to get enough money from the business or its assets to cover existing liabilities. By adding liquidity to your estate plan, you can ensure money is available to cover the debts and expenses of your business. This is especially important if you want your spouse, children or other heirs to receive a certain amount of inheritance or do not want your family burdened with unpaid debts after you’re gone.
6. If your estate passes through probate, your estate may have to pay hefty legal fees and expenses. To avoid having to sell your company or its assets at a fire sale or highly discounted price just to pay attorneys’ fees and costs, you should have life insurance or liquid assets in your estate plan.
Failure to understand the amount of cash and other liquid assets that will be needed to administer your estate and settle the inheritances of your spouse, partner, children or other heirs is one of the most common mistakes made by entrepreneurs and small business owners.
