Estate Planning Strategies

1. Estate Planning Strategies The Closely Held Business Presented by: Louis C. Grassi, CPA, CFE– Managing Partner and CEO

2. Estate Tax Basics • Fair value of married individuals’ estate is subject to estate tax on death of second spouse • Tax rates are: • 35% for decedents dying or gifts made after January 1, 2010 and before December 31, 2012 • 40% for decedents dying or gifts made after December 31, 2012 • Estate-Tax Exemption for 2013: • $ 5,250,000 for individuals • $10,500,000 for married using full gift splitting

3. Estate Tax Example

4. Assume no planning and if the death of the second spouse occurs immediately after the first, the total taxable estate would be… Federal Estate Tax due @ 40% Life Insurance Proceeds Cash & Securities Federal Estate Tax shortfall – where is this cash coming from? Estate Tax Calculation $ 7,000,000 $ 2,800,000 $ 1,000,000 $ 850,000 $ 950,000

5. Action Steps: Transfer residence to a Qualified Personal Residence Trust (QPRT) Transfer life insurance to a life insurance trust to keep value of death benefit out of the estate The biggest challenge is the illiquid value tied up in the business asset Possible Estate Tax Solutions for PersonalAssets

6. Post-Death Do nothing and be forced to liquidate to settle the estate tax Take the IRS on as a “Partner” in the closely-held business and pay the estate tax liability over time under IRC Sec. 6166, but this is no easy task and has its own risks best discussed as a separate topic Sell to a third party to create liquidity Pre-Death Planning Purchase more life insurance to fund estate tax Transfer to the next generation via gift, sale or combination of both Various Estate Tax Solutions for BusinessAsset

7. Purchase Life Insurance to pay estate taxes relating to business valueTo avoid estate taxes on Life Insurance the policy must not name the estate as beneficiary AND the deceased must not possess “incidents of ownership” at the time of death.Create a Life Insurance Trust where the Trust owns the Life Insurance Policy and each beneficiary of the Insured’s estate is a beneficiary of the Life Insurance Trust – they receive yearly gifts from the insured to pay the premiums. Upon death, the life insurance benefit is used to pay estate taxes The Life Insurance Solution:

8. Financial Buyer – will want to see several years of clear and consistent financials, with minimal shareholder notes and expenses. Any unusual or extraordinary items should be explained. Competitor or other Strategic Buyer – probably best to hire a business broker or investment banker to handle process while owner focuses on the continued success of business. Sale to employees – management buyouts or an employee stock ownership plan (ESOP); allows the business remain close and motivates employees to continue to grow the business because they now have “skin in the game.” Sale to Third Party Solution:

9. Gifting Ownership at Discounted Value Partial sale so next generation has some of their own assets at risk Retention of Control Next Generation Considerations

10. Valuation of closely held business Gifting Using Discounts Discount for “Lack of Marketability” – stock subject to restrictions like transferability has limited value to a 3rd party investor Discount for “Lack of Control” – less than 51% stock ownership is a minority interest. Lack of control means shareholder has minimal say in important decisions of the business. Therefore, this stock also has limited value to a 3rd party investor.

11. Recapitalizing Company using Voting and Non-Voting Shares Parent maintains Voting Interest Shares and retains control of company via voting rights – these shares will reflect a premium value to reflect the control value. Children are either gifted or sold the Non-Voting Shares, which contain value, but do not enable the child shareholder any decision making powers in the company – these shares will also reflect a discounted value to reflect this lack of control. Hence more company ownership can be transferred because of the inherent discounted value of the non-voting shares. Retention of Control

12. Intentionally Defective Grantor Trusts (IDGT) or Irrevocable Deemed Owned Trusts (IDOT)Irrevocable Grantor Trust is created by parent for each child. These trusts are all “Grantor” trusts for income tax purposes, whereby the income earned by the trust is taxed to the parent – not the trust or the child even though they actually own the shares. This will allow the parent to reduce their taxable estate by paying yearly income taxes on the Grantor trust income. The trust property is not included in the gross estate of the grantor.A provision can be added to a Grantor trust agreement which would allow the parent to be reimbursed by the trust for any taxes paid, if desired, because of lack of liquid assets to pay tax liability. Trusts – Grantor Trusts

13. Grantor Retained Annuity Trusts - GRATS • Betting to Live – used to transfer appreciated assets in exchange for an annuity. GRATs are an irrevocable trust that can pay the grantor a fixed sum each year for life or a specified period in exchange for a initial transfer of another asset, usually an interest in a closely held business. At the end of that period the remaining assets in the trust are distributed to the beneficiaries. If the grantor dies during the term of the GRAT, all the property transferred into the GRAT will revert back to grantor and be part of the grantor’s gross estate. If the Grantor survives the team, hopefully tremendous value of an appreciated asset has been transferred out of the Grantor’s gross estate.

14. Succession Planning Most Common Reasons for Ownership Transfer Plans Not Working

15. Succession Planning Definitive Ownership Transfer Plans

16. Estate Planning Ownership Transfer Plan Concerns

17. Planning for Family Harmony Tax law is a science, but family harmony is a very personal art. Most clients agree that it’s more important than the things they own. Pitfalls to Avoid: • Giving children grossly unequal shares of the estate • Punishing financially successful children • Forcing children to own property together after your death • Failing to communicate your plan to your children

18. Planning for Family Harmony An Ounce of Prevention: • Document transactions properly • Don’t punish success • Be fair • Be discreet • Be creative

19. Explore Options Keeping the business in the family is often the primary goal of succession planning: • Buy-Sell Agreements • Sale of shares via promissory notes, to be paid with bonuses or after-tax distributions • Gifting shares • Trusts as shareholders 5

20. Explore Options Other Alternatives if keeping the business in the family is not the goal: • Management Buyouts • Sale to employees through an Employee Stock Ownership (ESOP) or cooperative • Sale to outsiders • Liquidation

21. Implementation of Plan Some important events should trigger a visit to the owner’s service professionals for possible revisions to the plan. These include: • Divorce or remarriage of any primary participant in the plan • Death, disability, retirement or other departure of any stakeholders involved • Substantial change in the profits of the business 5

22. Questions? 6