May 17th

Protecting Your Family Business in a Time of Disruption

Ten years ago, Andreessen Horowitz proclaimed that “software is eating the world.”  Since then, the world has witnessed the rise of the first trillion-dollar software companies: first Apple, followed by Microsoft, Amazon, and Google.  Today, technology is woven into the fabric of every business in existence.  While technology has opened the doors to massive markets and exponential efficiency, it has also paved the way for unprecedented threats of disruption.

Every Business is a Technology Business

Regardless of the industry, every business is now a technology business.  For example, Invitation Homes, the largest owner of single-family rental homes, owes its success to proprietary software to optimize home maintenance schedules, improve energy efficiency, and better predict which neighborhoods to enter next.  Domino’s Pizza’s digital-first approach to managing its supply chain and deliveries has kept it a step ahead of competitors while also preventing third-party delivery apps from disrupting its relationship with its customers.

How to Prepare for Disruption

Be an Early Adopter

Experimenting with emerging ideas and embracing a culture of innovation will help see around the corner to where the world is going. Proctor & Gamble was among the first to experiment with advertising on TikTok, allowing them to generate over 14 billion views at a quarter of the cost of Facebook ad impressions.

If You Can’t Beat Them, Join Them

Honeywell invented the world’s fastest quantum computer and allowed for accessibility via Microsoft’s cloud, resulting in new revenue channels (customers now include DHL, Merck, & Accenture) while providing advanced analytics for Honeywell’s own business lines.

Disrupt Yourself

Be willing to incur short-term pain for long-term gain – cannibalizing existing business lines today can create opportunities tomorrow.  Toys-R-Us was unwilling to sell online because it would reduce in-store sales, allowing Amazon to capture the market.

Build a Brand

High-quality service and personal relationships can’t be replaced.  Build a relationship with your customers and focus on providing excellent customer service to prevent customers from leaving to a new competitor.  For example, Costco has the highest customer perception score of any retailer, preventing it from being swept aside in the wake of Amazon (and resulting in its stock doubling the performance of the S&P 500 Index over the last 10 years).

How to prepare for the inevitable?

It’s important to act today to be able to act quickly in the future.  Taking steps to prepare for a future sale will pay dividends not just in the form of tax savings but also in being able to take advantage of opportunities that may come your way, whether that be an unforeseen buyout offer, an acquisition opportunity, or capitalizing on prime market conditions to sell your business.

What steps can I take today if I am planning on selling a business at some point in the future?

First, Assemble a Team

Pre-sale planning requires coordinating estate planning attorneys, accountants, business advisors, family members, trust advisors, and wealth managers.  Whittier Trust acts as the quarterback for our client, seamlessly integrating your tax, estate and business advisors with our high-touch investment management, family office, client advisory, and real estate services to maximize the value of the business and protect it for the next generation.

Evaluate All the Options

There are many techniques that may be employed to minimize capital gain taxes and maximize asset protection, including:

  • Qualified Small Business Stock (QSBS) – Section 1202
    • Performed correctly, QSBS transactions can help exclude the greater of $10 million or 10 times the shareholders’ adjusted basis in gains
  • Grantor Retained Annuity Trust (GRAT)
    • While GRATs can be funded with any type of asset, the strategy works best when funded with securities that are expected to appreciate in a short period of time – such as stock in a private company that might be sold during the GRAT term
    • Today’s historically low-interest rates make GRATs especially effective
  • ESOP buyouts
    • ESOPs may allow sellers to defer capital gains
    • The selling company may receive a tax deduction equal to the purchase price through contributions to a qualified retirement plan
    • Proceeds from the sale must be invested in “qualified replacement securities” by the seller within a set period of time
  • Discounted Gifts/Sales
    • Transfers of assets where the interest being transferred lacks control and the ability to market and sell the interest may result in a valuation discount of 30-40%
    • Gifting discounted shares allows you to reduce your estate tax liability by leveraging your lifetime gift tax exclusion
  • Charitable Planning Options
    • Donations of appreciated assets can eliminate capital gains and transfer assets out of your taxable estate
    • Charitable deductions are calculated at Fair Market Value (except to private foundations, which are calculated at cost)
    • Double Benefit: Charity doesn’t pay taxes when sold in the charitable entity resulting in increased benefit, and you get a tax deduction for the donation
    • Consider donating directly to a donor-advised fund (DAF) for additional flexibility
    • Charitable Remainder Trusts provide an income stream for the grantor and a charitable deduction while benefiting a charitable cause
  • Consider the Nevada advantage
    • Unlike most states, Nevada does not have state income or capital gains taxes, resulting in a significant compounding effect on the growth of wealth
    • Nevada allows interests to be held in trust for up to 365 years, shielding future beneficiaries from tax burdens
    • Nevada law includes provisions for directed trusts, allowing an individual to place responsibility of closely-held business in the hands of a family member or business partner, while giving responsibility of the broader investment portfolio to a trustee
    • Performed correctly, Nevada is a premier state for asset protection trusts, providing protection to the seller of a business

Summary: We are living in a time of disruption.  A business climate where companies can be unprofitable for years before dominating an industry.  From software to logistics to rental homes, it is more important than ever to consider and prepare for the risks of disruption to family businesses.  Protecting the family business can come in the form of reinventing the business, forming asset protection entities, or effectively planning for a sale.

From Investments to Family Office to Trustee Services and more, we are your single-source solution.

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