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CASE STUDY:
The Business Owner And Influential Spouse

This information is for hypothetical and educational purposes only and should not be considered specific tax, legal, investment or planning advice, which will only be provided on a personalized basis. These are not actual clients, this is for educational purposes only. This information is based upon on our understanding of current laws, which is subject to change.

Introduction

I’ll never forget my very first meeting with Mr. Prospect; we were sitting in his office going through his current estate plan. He had an approximate net worth of $4 million, with a simple will and an estate subject to unnecessary taxes of (in those days) approximately $2 million. I was only about 10 minutes into our discussion, having highlighted these issues, when he stopped me dead in my tracks. He slapped his hand on the desk and said, quite forcefully, “I understand this stuff but you need to convince my wife that we need to do this; I haven’t been able to do that at all so far.”

I leaned over the desk and said to him, “Fine. Your job, and your only job, is to get our next meeting set up and get her to attend it. I’ll take care of the rest.”

And that’s how a wonderful long term client relationship began. You see, I knew that once I was in front of his wife I could lay out the case and deal with the concerns on her mind in order to make the planning proceed smoothly.

Objectives

Mr. Prospect came to us with the following objectives:

1. In the event of his death, protect and provide for the needs of his wife.

2. Update his last will and testament, with a focus on reducing and minimizing estate taxes.

3. Draft a buy/sell agreement with the son who is active in the business, setting up an orderly transition plan for the family business.

4. Equalize the balance of estate assets for the other children who are not active in the business.

5. Reduce overall personal and corporate tax liabilities.

Observations

After reviewing Mr. Prospect’s information thoroughly, we made the following observations:

1. Mr. Prospect and his wife had a simple will rather than a tax planning will, creating unnecessary estate taxes of about $2 million.

2. Mr. Prospect had no formal transition strategy or plan in place to ensure the son who was active in the business would indeed receive it; instead, the estate was set up so that all three children would receive the business as a group. This put the actively involved son in a position requiring him to negotiate with his siblings if he wanted to obtain the entire business for himself.

3. Mr. Prospect did not have enough insurance to protect and provide for his wife in the event of his death; additionally, his estate was subject to a significant amount of unnecessary estate taxes (approximately $2 million) with no leverage to reduce those taxes.

4. Mr. Prospect was short in his funding needs for financial independence upon retirement; he needed to save additional dollars (separate from the business) to meet his retirement income objectives.

5. Mr. Prospect owned a small plane outright; in the event of an accident this would cause liability to spread throughout the entire estate, including significant negative exposure for the business.

Recommendations

In designing a balanced set of solutions for Mr. Proscpect, we suggested the following:

1. Mr. Prospect should create a tax planning will to reduce estate taxes.

2. Mr. Prospect should enter into a family limited partnership for real estate, as this was a major income driver. A family limited partnership would also help with his objectives for financial independence, reduce overall estate taxes, and allow for the life insurance purchases to occur within that family limited partnership structure.

3. Mr. Prospect should coordinate a buy/sell agreement with the son who is active in the business. This would serve to arrange for and set expectations for this son to receive those business assets upon Mr. Prospect’s death. Additionally, it would allow for equalization so the children not involved in the business would receive equivalent assets upon Mr. Prospect’s death.

4. Mr. Prospect should consider changing accounting practices from a FICO to a LIFO format; given the nature of his business, this change would allow for some significant income tax savings.

5. Conduct a thorough review and audit all existing life insurance. Additionally, purchase second to die life insurance to cover estate taxes and improve on Mr. Prospect’s insurance by leveraging some of the newer types of policies available.

6. Mr. Prospect should create assets outside of the business so he will not be so dependent on income from the business while transitioning out of it into retirement.

7. Mr. Prospect should create an S corporation with the airplane as its only asset. In the event of an accident, the S corporation would be the only asset exposed to liability; this would effectively shield all of the other family and investment assets should an accident occur.

Summary

Mr. Prospect chose to implement all of the above recommendations and in addition decided to seek assistance from a new advisory team of professionals. We brought in new attorneys and accountants to help, while acting as the process facilitator to ensure proper implementation of all planning elements and recommendations. Mr. Prospect has successfully transitioned the business to the next generation, now working there a couple of days each week while mentoring his son. This has freed him up to spend time on other projects of interest outside of the business.

Investing involves risks, including loss of value. Gifts do not receive a step-up in basis. As such, heirs may be subject to capital gains taxation. Other limitations and restrictions may apply not identified above.