What Does it Mean to Fund a Business Succession Plan?
For business owners in New Jersey, a proactive and comprehensive succession plan is a must. The reality is that something unexpected could happen. A business succession plan helps to ensure that the company can smoothly transition. Notably, a business succession plan should be properly funded. Within this article, our New Jersey business succession plan attorney explains what it means to actually fund a plan.
Funding Converts a Business Succession Strategy Into an Executable Plan-of-Action
A succession plan may identify a successor, establish transfer restrictions, and require the purchase of an owner’s interest after a triggering event. With that being said, those provisions only have limited practical value unless the required transaction can actually be financed. Funding a business succession plan means establishing a reliable source of capital to pay the departing owner or the owner’s estate, satisfy company obligations, replace essential personnel, and maintain operations during the transition. The funding structure should address death, long-term disability, retirement, voluntary withdrawal, and other events covered by the governing agreement.
Your Business Must Calculate Its Potential Liquidity Need
How much funding is actually required? The answer depends on the specific business. Some need modest funding, others need extensive funding. The question begins with determining how much money the succession plan may require. That calculation ordinarily depends on the value of the ownership interest, outstanding business debt, projected transition expenses, taxes, and the company’s anticipated working-capital needs. A buy-sell agreement should contain a defensible valuation method, such as a periodically updated appraisal, an agreed value, or a formula based on earnings, revenue, assets, or another objective measure.
Business Succession Planning Tip: The agreement should also specify whether the purchase price must be paid immediately or through a down payment and installment note.
Funding May Involve Insurance, Reserves, and/or Seller Financing
Life insurance is one of the most common funding mechanisms for a succession triggered by an owner’s death. In a cross-purchase arrangement, the remaining owners generally own policies on one another and use the proceeds to purchase the deceased owner’s interest. In an entity-purchase arrangement, the company owns the policies and redeems the deceased owner’s shares or membership interest. Life insurance proceeds are generally excluded from the recipient’s federal gross income, although policy ownership, beneficiary designations, transfer-for-value rules, and estate inclusion issues must be reviewed carefully. Disability insurance, cash reserves, sinking funds, commercial financing, and installment payments may also be used for funding
Funding Structure Must Match Governing Documents: The funding mechanism must be coordinated with the buy-sell agreement, operating agreement, shareholder agreement, insurance policies, and other relevant governing documents.
Contact Our New Jersey Business Succession Planning Lawyer Today
At Poulos LoPiccolo PC, our New Jersey business succession planning attorney is a knowledgeable, experienced advocate for clients. If you have any questions or concerns about funding a business succession plan, we are here to help. Please do not hesitate to contact us today to set up a strictly confidential, no obligation consultation. With an office in Monmouth County, we handle business succession planning throughout the broader region in New Jersey.
