Succession planning for family businesses

Most family business owners know succession matters, and most put it off. It touches on money, mortality, family relationships and identity all at once, so it is easier to keep working and deal with it "in a few years". The trouble is that succession happens anyway, through retirement, ill health, death or a falling-out. The only choice is whether it happens to a plan.

This article sets out the main issues and a practical way to approach them.

Succession is two transfers, not one

A common mistake is treating succession as a single event. It is usually two separate transfers that can happen at different times:

• Management succession. Who runs the business day to day, makes decisions and leads the team.
• Ownership succession. Who owns the business, receives its profits and carries its risks.

A founder might hand over management to a daughter over three years while keeping ownership for longer. Or ownership might pass to all the children equally while only one of them works in the business. Separating the two makes many difficult conversations easier.

Start with what you want

Before any structure or tax planning, the outgoing owners need to answer some personal questions:

• When do you want to step back, and to what extent?
• How much income will you need afterwards, and where will it come from?
• Do you want the business to stay in the family, or is a sale to staff or an outside buyer acceptable?
• What role, if any, do you want to keep?

For many owners, the business is their largest asset and their retirement plan. If the next generation cannot afford to buy it, or the business cannot support both a retired owner and a new leader, that needs to be known early. Our article on building wealth outside your business explains why reducing that dependence matters.

Is there a successor?

Not every family has a child who wants to run the business, and not every child who wants to is ready. Honest questions to consider:

• Does the potential successor want the role, or do they feel obliged?
• Do they have the skills, or a realistic path to develop them, including experience outside the family business?
• Will staff, customers and suppliers accept them?
• Is there a non-family manager who could run the business while the family retains ownership?

If there is no clear successor, a planned sale is a legitimate form of succession, not a failure. See our business sales and purchases work.

Fair is not always equal

One of the hardest issues is how to treat children who work in the business and those who do not. Giving every child an equal share of the business can leave the one running it doing all the work for a fraction of the reward, while siblings who are not involved have a say in decisions. Giving the business to the working child alone can leave the others feeling overlooked.

Approaches families use include:

• passing the business to the working child and balancing the estate with other assets;
• having the successor buy out the parents or siblings over time;
• separating voting control from economic benefit through the company constitution or share classes;
• paying a market salary to family members who work in the business, so that profits and wages are not confused.

There is no single right answer. What matters is that the outcome is discussed openly and documented, rather than discovered when a will is read.

Value the business

You cannot plan a fair transfer without knowing what the business is worth. An independent valuation helps set a purchase price for a family buyer, balance an estate between children and identify what is driving value. It also exposes problems, such as a business whose value depends almost entirely on the founder's personal relationships.

Governance and communication

Families that handle succession well usually build structure around the business before it is needed:

• regular family meetings, separate from management meetings;
• a written agreement on how family members join the business, how they are paid and how decisions are made;
• a board, or an advisory board with at least one independent person, as the business grows;
• a shareholders' agreement that covers what happens on death, disability, divorce or departure.

That last point links directly to buy-sell agreements, which set out how an owner's share is transferred and paid for when something happens.

Tax and structure

How a business is transferred has significant tax consequences. Points that commonly arise include:

• Capital gains tax. Transferring business assets or shares to family members is generally a CGT event at market value, even if no money changes hands.
• Small business CGT concessions. Where the conditions are met, these can substantially reduce the tax on a transfer or sale. They require planning and the conditions are strict.
• Stamp duty. Transfers of business assets or interests in landholding entities can attract duty, which varies by state.
• Division 7A and loan accounts. Old loan accounts between the business and family members need to be understood and dealt with.
• Trust deeds. Where a business is held in a family trust, control passes through the appointor and trustee roles, not shares. The deed must say how those roles pass on.

The current structure may not be the right one for the next generation. A review of the structure is often one of the first steps; see our business structuring work.

Estate planning

Succession and estate planning must line up. A will that leaves business shares one way and a shareholders' agreement that says otherwise creates conflict. Owners should have:

• an up-to-date will, prepared by a lawyer, that reflects the succession plan;
• enduring powers of attorney, so decisions can be made if they lose capacity;
• a clear position on who controls any family trust after them.

Assets held in a trust or in super do not automatically pass under a will, which is why specialist legal advice is essential.

A realistic timeline

Succession usually takes years, not months. A simple outline:

1. Clarify the owners' goals and timeframe.
2. Identify and develop successors, or decide on a sale.
3. Value the business and review the structure.
4. Agree the plan with the family and document it.
5. Hand over management in stages.
6. Transfer ownership, with tax and legal advice.
7. Review the plan as circumstances change.

The best succession plans are boring. They are agreed in advance, written down and carried out in stages, so that nobody is surprised.

How we can help

We help family business owners value their business, review structures, model the tax and cash flow effects of different options and coordinate with lawyers and licensed advisers. If succession has been on your list for a while, contact us to start the conversation.

This article is general information only and does not take into account your circumstances. It is not financial product advice. Speak to a qualified, licensed adviser before acting on it.