Experts have estimated that 10,000 baby boomers retire each day, with the full generation expected to have largely retired by 2030. According to the Pew Research Center, the pandemic accelerated this generation’s exit from the labor force, with 3.2 million Boomers retiring between 2019 and 2020 alone.
With estimates that over 40% of private businesses, worth over $6 trillion, are owned by baby boomers (60% of whom have no succession plan), the generation’s retirement will have a substantial impact on our economy.
As trusted advisors to these owners, it’s crucial to understand how different exit options can help your clients achieve different goals.
What is Important to Your Clients?
Money is often not the most important factor for owners in an exit. For many owners, legacy is more important than raw sale price. For others, an exit from the business opens a new entrepreneurial opportunity.
The owner’s priorities and goals are the deciding factor for developing an ideal exit strategy. Are they planning on using the money to retire or to start a new business? Are they trying to leave behind a legacy for their children, employees, or community?
It is essential to understand your clients’ goals so you can help them navigate an exit to meet their goals. After all, they only get one shot at it.
Below, we provide a high-level overview of the different options, with links to more detailed information.
Legacy Option 1: Keep it in the Family
Sale to Family
While a sale to family members might seem straightforward, there are important considerations for the owner. For instance, owners may want to make the business affordable for family members, but they need to be wary of a bargain sale that could be characterized by the IRS as a taxable gift. With proper planning and time, an outright sale could still be accomplished at a discount by selling minority interests over time.
Using FLPs and FLLCs Gifts and Transfers
Common estate planning strategies are setting up Family Limited Partnerships and Family Limited Liability Companies. Both options can be used to lower gift and estate taxes for family members in the partnership or company. These options help owners pace their transfers of wealth over a substantial period of time to make the most of exemptions and exclusion limits.
Installment Sale to an Intentional Defective Grantor Trust (IDGT)
Setting up an IDGT can likewise decrease or avoid gift and estate taxes. But like the other options, owners need to understand the limitations and regulations of these estate planning tools to properly utilize them. For instance, it’s recommended to seed the new trust with at least 10% of the business’ expected purchase price as a separate gift before the full sale transaction occurs. And the business interest must be sold at fair market value as determined by a qualified appraiser and documented in a qualified appraisal.
Expertise Needed for a Family Legacy Strategy
- Estate Planning Valuation Expertise
- Using FLPs, LLCs, and Intentionally Defective Trusts
- Understanding of FMV limitations
- Gift and estate tax expertise
- DLOC and DLOM discount knowledge
Legacy Option 2: Sell to Employees
In a management buyout, a select group of leaders buy out the owners over time, often structured as a stock deal. This is a relatively simple strategy with low transaction costs and minimal cash required at closing.
An ESOP is an employee benefit plan that invests in employer stock. The ESOP is a “friendly” buyer that can offer flexibility of structure and potential tax advantages. However, sellers should be aware that the sale price is limited to fair market value, meaning they can always achieve a higher price from a non-ESOP buyer. ESOPs also involve important regulatory compliance and professional fees roughly equivalent to the costs of a fully-brokered sale. Some of the potential tax benefits include the opportunity for sellers to defer capital gains indefinitely, company deductions for non-cash ESOP contributions, and a 100% ESOP-owned S-corp pays no federal income tax. The ESOP also provides the opportunity for the seller to remain in a leadership role, if they choose. However, if the owner is planning on retiring with the ESOP sale, a leadership succession needs to be in place.
Expertise Needed for an Employee Legacy Strategy
Related Article: Considering an ESOP? Start Here
Cash Option: Sell to Outside Buyers
Selling to a private equity firm or strategic buyer can be an excellent option for owners looking to cash out with substantial liquidity. This option is ideal for the owner who is ready to fully exit all involvement with the business, as outside buyers typically bring new leadership in. Advisors should caution owners who expect to remain with the company after a sale to an outside buyer. Strategic buyers rarely keep the owner on after the sale. While it is more common for private equity to keep management in place, the change in ownership and increased oversight can be difficult.
Expertise Needed for a Cash Out Strategy
- Relationships with quality investment banks and brokers
- Understanding of non-compete, employment agreements
- Corporate attorneys experienced in M&A
- Tax CPAs with transaction expertise
Partner With Adamy for Exit Strategy Consulting
The Adamy team has participated in hundreds of ownership transitions in the last few years. Often, a valuation is an important starting point to establish a baseline for planning. During and after the initial valuation, we work closely with owners’ other advisors to facilitate an exit plan. For the same reasons clients rely on us for an objective valuation, they turn to us for an unbiased view of their business and perspective on long-term value creation.
Visit our Corporate Planning page for more information on our role in exit planning.
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