Unknown Ways You “Shipwreck” Your Business!

This blog post is for the business owners who want to make sure their planning is solid and won’t shipwreck their businesses, estates, and legacy.  However, because of past experiences dealing with some professionals, their planning is incomplete, and they have put their financial planning on hold.  In summary, they are motivated to make sure they have good plans but are frustrated with the system of getting their planning efficiently completed.  

Throughout my career I have often wondered why business owners put things off that should not be delayed, as the price of doing nothing can be very costly. Ask any attorney how many unsigned wills they have in their file cabinets and watch them roll their eyes.

I have concluded owners end up with incomplete plans because of the way some professional advisors work with the business owners [1].   

  1. Advisors have their own agenda and put the business owner’s aside.
  2. Advisors don’t work together to share knowledge about the business owner to maximize the effectiveness of the planning. 
  3. They protect their territory and don’t share information.
  4. They make planning more complicated than it needs to be.
  5. They are not good listeners.  
  6. They tell the business owner, as opposed to asking, them what they want. 
  7. Brevity- Business owners really like to get things done.  Advisors in many cases are not efficient time managers when it comes to presenting ideas to business owners.  
  8. Many advisors come to meetings without preparation and wing it. 
  9. In some cases, business owners don’t trust their advisors. 
  10. Some advisors are not open to educating themselves in other planning areas, and neglect bringing in a specialist for the purpose of protecting their planning turf. Consequently, the business owner never gets exposed to the planning that needs to be done. 

 Keep in mind that most business owners have many opportunities to plan, however, they are frustrated from their past experiences and give up, never getting their plans completed.   

Communication with the business owner

Business owners are busy people.  To get their attention requires communication skills. 

Business owners are looking for someone they can trust to get these things done.   Someone they can rely on, and someone who will take the time to really understand what it is that they want and need to do in their planning.  

Your Ears

You have two ears and one mouthGet it?   By asking poignant questions and listening, you can learn much about the business owner. Let me show you by an example.  Recently I was referred to, and helped, a business owner named BillBill was frustrated that he hadn’t done particularly good planning

Our first conversation was about estate planningI asked him, “up to now, what has been the extent of your estate planning”He said he had a will but did it many years ago

I asked him if he knew who Doris Day was, and told him a story of when Doris Days’ husband died (he was her manager and took care of every detail in her life), she found herself in a huge dilemmaYou see, she never bothered to know anything about her business arrangementsShe avoided the business part of her lifeShe left it up to her husband 100%. He died in his 40’s of a heart attackBecause she did not have any knowledge of the personal estate and business estate arrangements, she ended up owing a fortune to the IRS in income and estate taxes. 

Bill, “I am sure the last thing you want to happen is to have your wife end up being like Doris Day.” He agreed. 

How much do you discuss estate planning with your spouse?” Followed by the question “Do you have an estate equalization plan for your children”?   Our discussion lasted over an hour, while I asked questions and took notes.

How many business owners do you know who died at the right time? In other words, they die when they start things (new loans for expansion), or in the middle of things like expanding key groups in the business, but they never seem to die after they finished something. 

They never die at a good time, and because of that, they normally have chaos in their estates, causing hardship during the estate settlement phase, costing much more to settle their estates

My question to Bill was, “Someday you will leave your business by death, disability, or retirement”.  What plans have you made to take your equity of your business with you in a favorable manner”

You see most business owners haven’t planned for this transition. When the time comes to retire, they can’t get their money out of the business, they don’t have any updated plans, and they have no time to adjust. Consequently, their “Lifetime of effort” is stuck in the business. If they tried to sell it, they wouldn’t get the true potential value from the business, because of a lack of planning Normally they want out and end up selling at a discount. They don’t have time to create a better value because they have run out of time. They haven’t done the necessary planning to build systems in the business to increase market value.

The business poured out the gravy!

By the time they want to retire, they have been used to a nice lifestyle, supported by the business.  This may include the social club, lunches, luxury vacations, entertainment, and in other areas of their life.

Because they can’t get the value they need out of the business, they are forced to stay in the business and hope it can continue being profitable, even though the business owner doesn’t have the heart to run hard any longer. In most cases, the business owner is trapped in their own creation[1]     

Building value in your business takes a long time to create the systems and strategies to maximize the fullest potential value.  Unless the business owner takes the time to discuss this with advisors, implement value drivers and systems needed; they will never realize the greatest value of their business.  

 As Bill and I talked, he realized the story of his business and future needed to change. 

My story is really about business owners that pour a “lifetime of effort” in their business but don’t put the necessary time and consideration in how to get their “lifetime of effort” out of the business when they or their family need it the most.   

The business poured out the gravy!

By the time they want to retire, they have been used to a nice lifestyle, supported by the business.  This may include the social club, lunches, luxury vacations, entertainment, and in other areas of their life.

Because they can’t get the value they need out of the business, they are forced to stay in the business and hope it can continue being profitable, even though the business owner doesn’t have the heart to run hard any longer. In most cases, the business owner is trapped in their own creation[1]     

Building value in your business takes a long time to create the systems and strategies to maximize the fullest potential value.  Unless the business owner takes the time to discuss this with advisors, implement value drivers and systems needed; they will never realize the greatest value of their business.  

 As Bill and I talked, he realized the story of his business and future needed to change. 

My story is really about business owners that pour a “lifetime of effort” in their business but don’t put the necessary time and consideration in how to get their “lifetime of effort” out of the business when they or their family need it the most.   

The Indispensable Owner

 The problem was that nobody else knew what Bill knew. Nobody would know what to do if something happened to Bill.  He was an indispensable owner and an essential employee.   He knew the clients, vendors, bankers, advisors, and the key people he needed to know to run his business.  

I told him that when a motor loses its “indispensable and essential part”, the motor will not run any longer.  I told him when he dies, retires, becomes ill, and leaves his business, the “indispensable part” will destroy his “lifetime of effort”.  

That resonated with Bill.  We are now working on building a middle management and putting together an estate plan and a succession plan.  

MESSAGE TO PROFESSIONALS:  

When dealing with business owners keep in mind that they are focused.  They don’t like complexity, and they want to completely understand everything before they make any decisions on issues.  Listen to them and ask them questions.

To Business Owners

Business owners make a big mistake by not putting in the effort and being aware of the other parts of their business.  They don’t need to learn it, but they need to be aware of it.  By not being aware of certain parts of business planning, they end up in a financial chaos situation. 

The solution is to have discussions with your advisors regularly about the different areas of your business that you are not involved in.  Such as; succession planning, estate planning, keeping your key group, executive compensation plans.  These are areas that need to be reviewed and considered.   Without them you will “shipwreck” your family legacy or create missed opportunities. 

In my practice I have set up a bi-monthly sessions to cover issues and topics for our business owners.  This keeps them up to date and gives them a resource to address other issues.  


[1] If he sold his business, paid all the taxes and fees (which would reduce his net value by about 40-50%), and then took that value and invested it at 3-4% (to avoid taking risks), his return would probably be much less than the perks and income he was taking from the business.  And that is what provided his lifestyle.  


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[1] Professional financial advisors (anyone who is giving financial advice to business owners)

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Awareness to succeed!

This is the video and the narrative to post

This video is a 19-minute quick course which I put together in order .to share with you the biggest mistakes business owners make.

I call this the “Awareness to Succeed,” course. 

Owners spend most of their time on their product and services, and employee relations. This takes up much of their time. 

However, because of these time-consuming tasks, they are unaware of the other areas of business that should be understood and focused on by them, or at least have an awareness of. 

By not having some type of awareness in these areas, they run the risk of being side swiped by some fiscal impact that may have a major effect on their finances, both business wise and personally. 

This quick course will make you aware of some of the major areas you need to understand better. 

As an owner, you may not have the time to learn all that you need to know about these areas. You will learn that they are especially important and assign a professional consultant to keep you informed of your status and future developments in these areas. 

There are many changes coming out of Washington weekly that affect your business. You need a system to stay up on many of the changes. This course is designed to help you understand critical information. Take the 19 minutes to learn more about, Growth, Protection, Equity, and Transition in your business.

Once you complete this course, request a FREE download of my book “Unlocking Your Business DNA,” and subscribe to “Building and Protecting Your Business Worth Podcast.”  These are two great areas for learning. 

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The Easy Process To Identify and To Solve The Problems!

The Easy Process To Identify and To Solve The Problems!

Excerpts from My book, “Unlocking Your Business DNA”

The One Page Solution!

As we start the process of fixing the problems, they need to be identified. In chapter 1, I discussed how the business owner needs to find their “Business DNA”. Again, this is about focus and asking the right questions, and giving the business owners the amount of time, they need to think it through.

I break down the issues into two categories, BUSINESS GROWTH AND TRANSITION.

Business Growth: Focuses on the business itself such as the strategies needed to grow the business, the systems, the culture, and its employees. It is all about the business future.

Transition: Focuses on the categories that relate to the owners, and the changes they need to make in their personal life because the business is growing.

I keep these categories separate because the issues concerning the business growth are different than the owners transition issues. However, as the business growth changes, it affects the transition of the owners, and vice versa.

It is very important that the business owner is committed to fixing their problems.  If they are not, the first time they have a business roadblock, they will tend to put planning on the back burner.  This is a mistake, because most of the time it does not resurface until there is a crisis.

However, in our planning we do create action plans in small steps. Having a team of advisors working together creates the ability to complete the small steps needed to accomplish our goals.

An Example:

A perfect example was when a company we were working with had plateaued in growth and wanted to create more business growth. When we went through some of the planning questions, I realized the owner had spent no time systemizing their business.

The owner had no documentation of operational systems of his business, but instead it was all in his head. He would delegate the tasks to his employees like a drill sergeant.  He never even thought of the fact that there was no continuity in his business, consequently, if something happened to him, the business would have ended.

I asked him, “could you go on vacation for three months and not check in during that time”?

He looked at me and laughed, replying, “are you kidding this place would fold in seven days.”

I replied, at least you are real, the sad part however is you do not have a business, you have a job. You have a position, a paycheck, and a place to go, but you do not have a business.

He looked at me dazed! But he knew I was right.

The Process Using “One Page Solutions”, will keep everyone on track.

To uncover the issues and problems with the business owner we go over the main subjects called “ONE PAGE SOLUTIONS.”  On any subject there are always a few directions in which the business owner can go. We discuss them and analyze what are the most important subjects the business owner needs to deal with currently. “THE ONE PAGE SOLUTIONS” ARE LISTED BELOW.

Each Subject has a few sub-topics we review with the owners. As we DISCUSS the One Page Solutions, we find the strategies which will solve the issues. Once we are done with the subject, we move on to the next One Page Solution, if any.

THE FOCUS AREAS of the “One Page Solution” ARE:

1-Sale of Business (outside)/ Evaluation Methods/Timing

2- Inside Transition (Family, Co-Owners, or Key Employee/s)

3-Passive Ownership- Owner wants to still run the business, but take long trips

4-Retirement; defining and preparing

5-Wealth Accumulation & Asset Protection (both in and out of the business)

6-Premature Death- Consequences

7- Estate Distribution- updating

8- Life Insurance Contracts and Benefits

9-Legacy Planning / Management of Legacy

10-Disability and Illness, Medicare, and Medicaid

11-Key Employee Retention- and Creating A Culture

12-Key Employee Owner’s Manual- systematically creating company manual, business coaching, marketing proceedures

13-Corporate Benefits and Retirement- cost and efficiency

14-Qualified Plans and Personal Liabilities- Executive Compensation

15-Family Relationships/Employee Relationships/Human Resource

We helped a business owner recently with the problem of not having business growth over a prolonged period of time.  The solution was to put in place strategies that would create transferable values for the future.

They included things like creating key group, documentation, standard procedure, diversification, and growth strategies.

In this case we realized this will take some time to implement. The owner was under no delusion that this will be done in one year. Most importantly the owner started the process. A few years from now he will see the outcomes in all its glory. Because we have experts in our toolbox, we shared our professional advisors with our client for coaching purposes, and education.

Besides implementing a few systems, they will also do a business appraisal every two years. Over a period, this will help them evaluate the growth of their company by implementing the systems suggested.

By doing this the company could allow for better planning in the future, and adjust the path towards financial security, and business growth.

One of the key elements to helping Business owners solve problems is to also identify the roadblocks. This eliminates the surprise factor should our implementation strategy not go as planned. In one of our planning agendas, we discuss these roadblocks and try to define the subsequent issues and challenges in the future.

What is extremely important in this process is that it makes the owner aware of any potential issues they must have to deal with in the future and stay ahead of the problem curve.

Over the years what has been extremely helpful has been the communication with the team. Again, these are the client’s advisors that may or may not have been in place before we started planning. Since we update the team regularly, we are often given new advice that has been helpful in forecasting future events in the business.

We normally would not have this knowledge if we did not have the team of advisors in communication. This is one of the biggest advantages of working with the team and having periodic reviews.

We have been successful helping business owners work on their business to get issues resolved and to focus on details. We use a One-Hour a month system for the business owner to do this.  This allows the business owner the brevity they want, but also, gives them quality time to organize the details of their business. Through our step-by-step system, we help business owner cover all the key issues that are needed to cover to run your business smoothly, take more time off, earn more money and just enjoy working and life much better.  

If you would like a FREE WHITE PAPER called “Your Business Essential” which will help you organize your business, CLICK THE LINK BELOW, download the white paper. This is a 128-page guide in business planning Your Free. When you click submit on the form, your file will immediately download.  Enjoy. 

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Financial Leaks

If You Had a Financial Leak in Your Financial System, And It Was Going to Bust Your Financial Pipes and Bankrupt You, When Would You Want to Know About It?

Financial mistakes are made every day by many business owners without them realizing they cause leaks in their long-term plans until it is too late. 

This happened to my family 52 years ago. Because of it, I saw the devastation up close and personal. Obviously, I was so passionate about “financial mistakes,” I authored a book about it, and started a podcast to help business owners avoid making mistakes that resulted in major leaks in their lives.[i]

Many, if not most, business owners totally ignore the red flags which indicate the leaks, but go unattended, which ultimately break the pipes of the financial world of the business owner, leading to a swift exit from their businesses, and or bankruptcy. 

Having worked with business owners for many years, I have been up close and personal, to witness some of these financial mistakes. 

I am going to list several of them with the hopes they will make you more aware of the red flags when you see them. 

Mistakes and Leaks

#1. Depending on your Accountant and your Attorney for your long-term planning. 

Business owners assume by having an accountant and/ or a lawyer, they will be up to date on all the tax laws that affect them. False! Most CPAs and accountants provide specialized services and do them well. Accountant’s record history and put out tax fires if your mistake is fixable. Very few are trained in financial planning, or in-depth planning. If they are, they do not usually file tax returns for people, they are in another area of planning. 

Attorneys will keep you from doing things that may be illegal or ill-advised and create an unlawful situation in your personal and business life. They are not in the planning business, but normally in the reaction business. 

However, you may find an attorney who is proactive in planning, and looks at the whole picture, not only from the documents needed to fulfill your wishes, but also to the financial side of the equation. What good is it to have the greatest documents $10,000 can buy, but there isn’t enough cash in the estate to pay the taxes, or keep the survivors in the lifestyle you wanted them in?

#2. Not getting a certified evaluation of your business periodically. Instead, relying on formulas and fixed price values. 

If you think you know the value of your company all you need to do is look at the IRS cases where they have refuted the valuation the estate put on the business in tax court, and you will realize there is more to establishing a value on your company then just general formula.   Just because your competitor tells you they can sell their “like kind” business for 10 x earnings, doesn’t mean you can. Every business is different in its makeup and the way it is run. Consequently, so are the valuations.  I have been told by my clients;” they are using what the “association” uses for their members”? What? Do not drink the cool aid, use a certified appraiser for your appraisal and save yourself a lot of angst. 

#3. Not taking advantage of your company’s cash flow to create “executive compensation” benefits for you and your family. 

By not doing so, you are missing one of the greatest benefits your company can give to you. Your company checkbook can do much more for you and your family than your personal check book, and it is much more tax efficient. You can create a tax-free income for retirement on a fraction of the tax cost of what a pension plan would cost. Also, most of the executive benefits are not regulated by the IRS, giving you much more freedom as to how much you can save, and how long. 

#4. Not delegating responsibilities in your company. 

By not delegating tasks, you are depressing the future value of your company’s true selling price. Purchasers do not want you; they want a viable key group that knows how to run the business. By not delegating, you do not develop the key group, and potential employees that think like an owner, which is an asset for business’ growth and value. 

#5. Not systemizing the business and journalizing the systems. 

Having systems in your company, along with documentation creates a much higher purchase price of the business. A purchaser finds greater value by having a ready-made system which drives the running of your business. Systems and documentation must go together. 

#6. Not taking the time to plan your estate and incorporate your business planning. 

Who gets what, and when? What will it cost to transfer property to your family? What are the things you can do to mitigate the tax bite? Estate taxes are voluntary, and it is only the people who do not plan, who pay large taxes and estate fees. Are the family members ready to run a business? Who will run the business? These are only a few of the many questions business owners should be asking themselves. These are the areas an astute and excellent planner would ask questions about. The type of planning you do, will depend on your family, business, and estate situation. Without this type of planning, great financial pain and disruption in the business and the family can occur. 

#7. Not having an up-to-date transition and succession plan.

What will happen to your business when you retire, have a long-term illness, die, or just need to leave? What do you want to happen to it? Without a thought-out plan, there is a financial mistake and a financial leak. Since your business may make up most of your wealth, without a succession plan, you jeopardize the future value of the business along with the future financial security of the family and your loved ones. 

#8. Not having records of your business and your estate organized for your family should you die

You are not around, what did you want to happen to the estate and the business? Without instructions, the estate is lost as to what you wanted to happen to your business. Without instructions they do not have the permission to continue the business, pay certain bills, keep employees. At the very least, this is an area which you should have communication with your family, and documentation of instructions. 

#9. Not having a “Plan B transition,” when you have not completed a Plan A

So many business owners talk about having a plan of transition and succession, but never get around to getting it done. In this case you are better off having some plan, rather than not having any plan. This is the Plan B: “The JUST IN CASE PLAN.”  This is the plan that comes into effect if you were killed in a car accident on the way home from a party, but you did not have any formal plan, because all the unsigned papers were in your top drawer in your office, for the last three years, PLAN. GET my drift? 

#10. Having most of your sales come from only a few clients

Happens more than you can imagine, and you need to be aware of it. If this is the case, start acquiring more clients. The reasons are obvious. If you have more than 10% of your sales coming from one area, you should start acquiring more clients. What happens if that customer finds a better provider with lower prices? What happens if they are aware that you are dependent on their business? Again, it is obvious that this can be a problem if not changed. 

#11. Your professional advisors should be working as a team with each other for your benefit. 

In my book I discuss one of the best tools I used in planning for the business owners, which was having a periodic meeting with the other advisors to keep them in the loop. The benefit was to learn what they were doing for the owner, and to communicate to them, what I was doing. It helped to avoid overlapping. Also, I found that some of the members knew more about the owner’s likes and dislikes, which helped us understand their thinking, allowing the team to produce solutions that made sense and were workable. Ask yourself, how many times have all your professional advisors sat down in a room together to discuss your challenges and your dreams?

#12. Not sharing you planning with your spouse

It certainly makes it much easier when both spouses are on the same financial page. One of you will be the end user of your estate assets and it would be best for all parties to know what the long-range thinking is. Have a spousal business discussion periodically. It really helps. 

#13. Having the wrong type of business structure currently in your business career

Many times, the business structure you started with, is not the structure you should have currently. Over time, the business grows and outgrows the same business structure you started with. It could be another type of structure would be more effective for your current financial situation. I see many companies who should be an S corporation now, but have stayed in the original structure, only to pay more payroll taxes than they need too. The type of business structure you will use, is driven by tax planning and protection. It pays to discuss this aspect of your business as it may provide better protection and save taxes. Your accountant can guide you. 

#14. Not having a Buy and Sell Agreement/Business succession agreement. What is going to happen to the business at your death, or one of the seven triggers. 

You have a Buy and Sell Agreement (BSA); however, the agreement doesn’t discuss the funding of a triggering event. For example, if a partner died, life insurance would be the best choice to fund this triggering event because it would be the least expensive. However, other triggers, such as divorce, termination, bankruptcy, do not have vehicles to fund the event. The BSA must address how they will be funded? Many BSA do not address the funding of a particular trigger. Will there be a loan, a note, cash flow? It is best to discuss these areas while all the parties are living and involved. Keep in mind, that the BSA is a contract, and the parties of the agreement are liable for the payments to be made. 

#15. Not taking advantage of the income tax laws which allow you to spread some of the benefits to lower taxpayers in your family. 

Have your kids work for you and earn a salary? That salary will be at a lower cost and could be part of the funding for their college. Or changing your business structure to save taxes. As an example, becoming a S-Corp and taking a lower salary to avoid payroll taxes. There are many areas of the income tax law that favor family participation where there is a shifting of tax obligations. Your accountant would be a great resource to discuss this with. 

#16. Not taking adequate time away from your business. 

In my book (Unlocking Your Business DNA), I wrote about taking much more time off from your business. There are so many reasons to consider this. For example, I worked 80 days a year seeing clients. The other days, I worked on the business, but did not see clients, and this gave me more time freedom. This allows for more creative thinking, less stress, better family and employee relationships, and a host of other benefits. Many business owners can design this type of arrangement when they consider delegating and implementing systems in their business. This is also important for at least two reasons:  1-Employees can learn how to think like owners. 2- By taking time off you start to create great ideas for the growth of your business and help enhance your qualify of life. I call this the ideal business and personal lifestyle. 

One minute Survey assessment tool get your free Business Assessment using the One-Minute Assessment Tool. This tool will help you uncover potential mistakes and financial leaks you don’t even exists.  When you don’t know they may exist, you don’t have the choices of resolving them, or ignoring them like other KNOW MISTAKES.  This tool will do three things: 

  1. Make you aware of your current planning to this point good or bad!
  2. Make you aware of the financial mistakes planning we do.
  3. Help you formulate questions you may want to discuss

 CLICK HERE. For your One-Minute Survey


[i]“Unlocking Your Business DNA”, Thomas J. Perrone, CLU, CIC – AMAZON

Consequences Of Not Creating A Buy and sell agreement!

Part 2 

BY Thomas J. Perrone, CLU, CIC 

S Corporations enjoy the advantages of limited liability, transferability of ownership and professional business operation and management. The S Corporation is taxed similarly to a partnership, as it is a pass through to the shareholders.  

The C Corporation is taxed at the Corporation level first. When the C Corporation is profitable and generates taxable profits. When profits are distributed to the individual shareholder it is taxed again when dividends are received by the shareholder.  

You will find S Corporations normally when the individual rates are lower than the Corporation rates. Also, losses in the S Corporation shareholders may benefit, by deduction, the losses on their individual tax returns.  

S Corporation requirement 

  • No more than 100 shareholders- members of family are considered one shareholder 
  • Must be a domestic corporation 
  • Only individuals, a decedent’s estate, estate of individuals in bankruptcy, and certain trusts are eligible shareholders of s Corporation 
  • No shareholder can be a nonresident alien 
  • One class of stock (different voting rights are allowed) 

Basis and S Corporation 

There is only one level of taxation in the S Corporation. That is at the shareholder’s level.  

If the shareholders basis exceeds the distribution, the shareholder usually will not be taxed when they receive the distribution.  

If the S Corporation has never filed as a C Corporation and has no retained earnings or profits, distributions received by an s Corporation shareholder are not subject to income tax if the distribution does not exceed the shareholder’s basis. Consequently, the larger the basis the greater amount of distribution can be taken tax-free.  

Quick overview of Basis 

  • nontaxable distributions of previously taxed income 
  • income distributed in the same year in which it was earned 
  • losses 
  • nondeductible expenditures such as life insurance expenses 

Keep in mind that the adjustments to shareholder basis is an ongoing procedure and will vary from their initial contribution to, or investment in, the Corporation. Usually, a service corporation will have a low basis because of the low initial investment made in these types of businesses.  

Life insurance to fund the Buy and Sell Agreement 

Life Insurance can have several advantages for S Corporations in a buy-sell agreement.  

A nondeductible expenditure such as life insurance premiums decreases a shareholders’ basis in an S Corporation. The cash value policy can help offset, eliminate, this adverse situation.  

Life insurance cash value helps offset the premium charged to the capital account. The cash value offsets the premium paid so that the decrease to the capital account is offset by the cash value of the policy.  

 As an example, if the premiums are $15,000 and the cash value increases by $12,000, then only $3,000 is charged to the capital account reducing the basis of the stockholder by $3,000. As opposed to having a term insurance policy with a premium of $4,000. The permanent coverage will have less effect on the basis reduction of the stockholder than the lower term insurance premium.  

Over a longer period, there will be in increase over the premium, consequently eliminating the basis reduction. In the term insurance scenario, the reduction of cost basis will continue. In some cases where the term must be renewed, or the term has an increasing premium, the lowering of the basis can be substantial.  

Death benefit and basis 

If the life insurance is set up as a redemption basis, it is possible to plan for an increase in basis for the remaining stockholders, by using a promissory note for the deceased stockholder before settling the life insurance claim. Since the death benefit is tax free income, it will increase the basis. Example:  there are three stockholders, A dies. Instead of making the claim on the life insurance, A is bought out using a short-term promissory note. Once completed, the death claim is filed, and proceeds will come in tax free for the remaining stockholders which will increase their basis. If the death benefit were used for the decedent, there would have been a wasting of the basis since the decedent’s estate would normally receive a stepped-up cost basis.  

Stock Redemption in S Corporation 

The buy and sell agreement are between the stockholders and the Corporation. The S Corporation owns the policy on the stockholders and is the beneficiary of the policy. Death proceeds to the Corporation are tax free and increase the basis of the stockholders. A big advantage to arranging the buy and sell agreement under an S Corporation is avoiding the alternative minimum taxes and the loss of basis found in a C Corporation.  

Cross Purchase buy and sell in s Corporation  

The arrangement all owners of a business agree upon in advance to purchase proportionate shares of the decedent shareholder’s interest. Each stockholder would own life insurance on the other stockholder(s) and be the beneficiary.  

  • Life insurance premium is a nondeductible personal expense 
  • Shareholders receive the death benefit federal income tax-free 
  • The surviving stockholder uses the funds to purchase the stock, which will increase the basis of their holdings, by the amount purchased.  

Some key issues:  

Section 318 Attribution Rules  

In a C Corporation, attributions can be avoided for tax purposes by arranging the buy and sell agreement under a Cross Purchase. Since the Corporation is not redeeming the stock, and it is the stockholder, attribution and the treatment of the redemption being treated like a dividend distribution is avoided.  

In an S Corporation, if the S Corporation does not have retained earnings or profits , it will have the same tax result as if the shares were sold or exchanged, allowing the shareholder to recover their basis tax-free, with any amounts exceeding. Basis being treated as capital gains.  

 A poorly structured buy-sell agreement could result in the loss of S Corporation status, as well as the possibility of increasing the surviving shareholder’s tax burden on future distributions from, or on, the sale of the S Corporation. However, there are some great advantages of setting up a proper buy-sell agreement which can be even greater advantages than those available to C Corporations.  

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Conclusion: 

The S corporation can be a great tool for many business owners as a corporate structure. A Buy and Sell Agreement must be carefully considered and drafted with consideration of avoiding the loss of an S Corporation Election.  

The Key To Creating Value in Your The Key To Creating Value in Your Company

In Chapter 4 of my book, “Unlocking Your Business DNA”, I discuss your key group. I discussed the up side  and the downside of having a key group. 

First, the upside is nothing but good stuff.  Having a key person or group is one of the value drivers which add great value to your business, add profits, frees up your time, and allows you to enjoy your business life more.  Also, they can become the future purchaser of your company. 

The key person or group only becomes bad when the owners don’t pay attention.  They don’t protect themselves from the possibility of being held hostage in the future.  The case study is worth reading as it happens all the time to unsuspecting owners.  

In the case discussed, I pointed out the problems, but also gave some possible solutions where everyone is happy.  

This is a key chapter to read to make sure you don’t make the mistake our client did.  

   If you wish to discuss creating a “Destiny Plan” with me, or discuss general questions about your business’ Key Business and Financial Elements, CLICK  BELOW to arrange a mutually convenient 15 minute discussion.       LET’S DISCUSS “DESTINY PLANNING”  ALSO, if you would like to email me your questions, please do;  tperrone@necgginc.comsubject:  QUESTION 

How The Buy-Sell Agreement Fits Within the Scope of An S Corporation!  

Part 1 

BY Thomas J. Perrone, CLU, CIC 

Normally, a business makes up a substantial portion of the owners’ net worth. Many business owners do not think about what will happen to their business in the event of their death or a life changing event (trigger).  

This article will focus on why a buy and sell is an important document, one of the most important you will need. 

We will also discuss the buy and sell agreement in the context of an S Corporation since S Corporations are extremely popular. 1 

Consequences of not creating a buy-sell Plan.  

  • Stress on the business’ cash flow or credit line having to purchase the decedents owner’s interest  
  • Unqualified and instability with employees running the company 
  • Disagreements and conflict among heirs increasing administration time and costs 
  • Lack of a market for business which may potentially represent a significant value in the estate 
  • Suppressed value much below fair market value to raise cash for estate needs 
  • Termination of the business 
  • Instability amount employees and creditors 
  • Lack of liquidity to pay estate taxes and other administration costs 
  • Stream of income to remaining family members from the business is lost 
  • Valuation disagreements and IRS litigation 
  • Nightmares of not having a Buy and Sell agreement in a S Corporation! Loss of eligibility as a S Corporation resulting in involuntary termination of the S. Corporation status 
  • Most transfers to entities such as partnership, Corporation and most trusts are prohibited transfers 
  • A termination of S Corporation status will cause the Corporation to be taxed as a C Corporation as of the day of termination creating income tax consequences to the shareholders.  
  • Corporation, which is terminated, must wait five years before making a new S Corporation election, resulting in Corporation being taxed on its net profits for five years.  
  • The surviving shareholder could face additional tax burdens on future ongoing Corporation distribution and on those made upon the sale of the Corporation 

Funding the buy and sell agreement is always a challenge to companies, because it comes down to four ways of funding a triggering event 

  1. Borrowing money from the bank 
  1. Using cash flow out of the business 
  1. Life insurance death benefit 
  1. Cash  

When you compare the costs of funding the buy and sell agreement, life insurance will be the least expensive by a long shot, in most cases, especially, based on a death trigger.  

Other triggers, like divorce, sudden removal from the firm, voluntary and non-voluntary removal from the firm, bankruptcy, and disability are triggers where there is not a death benefit being paid, but money is needed. In these cases, a promissory note may be used in conjunction with a term payout, or installment loan payout.  

However, the cash buildup of a life insurance policy could be used as a funding vehicle especially if the policy has been in force for many years.  

In Part 2 we will investigate how the buy and sell agreement fits within the scope of an S Corporation.  

FREE REPORT “Jones Business Planning and Succession Report” ASK FOR REPORT R3 

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Creating Great Personal Wealth With Your Business Income!

In my planning with many companies over the years, I realize that many business owners are not using the corporate cash flow to create wealth outside of the business. Normally they are using their after-tax dollars to buy financial products to create a benefit for them personally.

Many of the business owners feel they need to put all their current dollars into the business. This is a mistake! The reason this is a mistake is the business equity can get tied up just like a home-equity can. At a time when the business owner needs his business equity the most, is usually at a time when he cannot get it out for one reason or another. Business equity is not very liquid as it is tied up in receivables, loans, inventory, and the like. By putting too much of the business owner’s wealth in the business, they are risking the loss of it in the future, or the very least, the ability for its use for some major cost.

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Owning a business creates opportunities to use the corporate dollars to create personal wealth outside the business. I call these benefits executive compensation. Normally you can arrange executive compensation programs to be highly effective and efficient tax wise. The corporate dollar can do more for you than the owner could do on their own personal dollar. We have many programs where the corporation is taking a deduction and creating wealth for the owner and their family which is positioned outside of the business.

Below is a project we worked on which shows the value of the corporate cash flow. The names of been changed to protect the innocent, but the case history explains how effective using your corporation cash flow to create wealth outside of your company!

The Case Of Joey Bag Of Donuts

This is the case of Joey Bag of Donuts and his pursuit of keeping wealth outside of his business.  You see, over the years working with Joey Bag of Donuts we told him that leaving too much of his wealth in the business can be problematic, especially when the time came that he needed to exit his business.  He heard me tell him many times, that someday he will leave his business by either a death, disability, or retirement_, and taking the wealth with you when you need it the most, can be a problem, if you do not have the right exit strategy. _

There are many reasons wealth gets lost in a business when it is sold.  It can range from bad planning to bad luck, but Joey Bag of Donuts always remembered to keep as much of his personal wealth outside of the business as possible.  Therefore, he purchased his company building and put it in a separate LLC.  Joey Bag of Donuts also believes in putting as much of his income into the company pension plan. Again, this plan is outside of the business.

We also taught him to have his company support whatever it can legally towards his personal lifestyle.  For example, his cars, gas, some entertainment, health insurance, retirement, and other things are paid for through the company.

Joey Bag of Donuts wanted to put more money away for himself and his family’s future, but did not want to use his own funds, so why not have the company support more retirement contributions?

He already had a profit-sharing plan, and he was sharing company contributions with his employees.

We decided that a non-regulated plan was the best way to go, so we developed a plan for only him.  The plan is a combination of two concepts.  We call this the CEEP PLAN (CORPORATE EXECUTIVE EQUITY PLAN).

The plan is a discriminatory plan, so Joey Bag of Donuts can pick himself or anyone else he wants, unlike a profit sharing or 401k plan, which is a regulated plan.

THE PLAN: As you can see, the company made all the contributions, and took the deductions for them.  Joey Bag of Donuts was the sole participant of the plan. His cost was “0” out of pocket and he ends up with almost $800,000 of cash at retirement.  He also could turn the cash into a tax-free income stream.  In this case it was $67,500 tax-free income. The stream of income is worth more than $1,215,000.  Along with that he has a death benefit of $2,300,000 payable to his family tax-free.

THE BOTTOM LINE: Joey Bag of Donuts gets retirement income using corporate funds.  All the contributions can be applied to just his account.  He also has the use of the account before retirement, like a “family bank,” along with the ability to withdraw funds tax-free.[1]  There would be no 10% penalty if withdrawn before 59 ½.

THE RESTRICTED PLAN: The “Restricted Plan” relates to an employee of the company that the owner wants to make a “A key person To Hold onto Forever.”  This is a terrific way of giving someone a benefit with a vesting schedule, so they stay longer.

Summary: If you own a company and are not taking advantage of the CEEP program, you are missing one of the genuinely great executive benefits available to you as a business owner.  The plan is flexible so you can design it to your needs.

OVERVIEW OF THE PLAN (Summary):[i]  Type of Model: CEEP

EMPLOYER

Yearly Premium Payment:  $25,000

Yearly Net Cost:  $17,500

Total Gross Premium to Retirement: $675,000

Total Net. Premiums to Retirement: $472,500

Total Loans:

For Tax Costs: $202,500

For Interest Costs:  $112,003

Net Cost of Loans: $314,503

If Loan Forgiven, Net cost:  $220,152

EMPLOYEE

Annual Average Interests: $4,148.25

Loan Payoff AT Retirement:[2]  $314,503

Net Cost:  0 (all funding came from Ajax Company)

AT RETIREMENT:

Rollout Amount:  $94,350.83

Tax Cost on Forgiveness of loan[3]:  $94,350.83

Net Cost to Mr. Joey Bag Of Donuts

ll :  0 cost out of pocket[ii]

Cash Value in policy after rollout/forgiveness:  $793,4 29

Death Benefit After Rollout: $2,306,317

Tax-Free Retirement Yearly Income: $67,500

Equivalent Pretax Payout Before Taxes:   $96,429

Years of Retirement Income:18

Total Retirement Income:  $1,215,000

All and all, not a bad arrangement.

[1] Fund in excess of the collateralized amount.

[2] Funds are withdrawn from policy tax-free, results are “0” cost to Mr. Joey Bag Of Donuts

[3] Fund come from policy tax-free.

[i]This is only a summary of the illustration attached to this book.  The illustration is a hypothetical model of how the policy would work.

[ii] This is a fully funded Employer plan. There is “0” cost out of pocket for Mr. Joey Bag Of Donuts

For a free repot on creating Wealth Without Taxes, CLICK HERE! REQUEST R2 REPORT
This report will discuss the methods which will allow your business to use its cash flow to create wealth for you outside your business at the most tax effective way of creating wealth. Executive Compensation CEEP planning is more tax effective than a 401k, 403b, or any other pension and retirement plan. 

As a business owner you have the opportunity to create an amazing amount of wealth with little tax cost. Start with the report and find out how you can create your wealth and your financial security for the future. 

Pending Tax Changes May Be Around The Corner 2022!

 

I am currently reviewing some of the pending tax proposals being presented. Again, these are proposals and most of them will change before enacted.  

It occurred to me as I was reviewing the details of the tax proposals, how many changes I have seen over my long planning career.  It made me think of  how many times clients (YOU AND ME) had to  update our plans at our cost.  It is amazing the disregard the government has for the U.S. citizen in making this system easier to work with. I can understand why so many citizens put off planning, or just get tired of updating.  Unfortunately, this is the reality of the tax system and the changing of administrations.  

In 2017 we had a major income tax change which in most cases helped many  citizens lower their taxes.   It was easy to understand and it did what it was suppose to do, stimulated the economy along with increasing  public confidence.  

It also gave estate owners a path to plan to preservation their estates. The tax policy was working very well and our government tax coffers where growing.  

Pending Tax Changes- Again These are only proposals!  

The Green Book 2021  

Sr. Van Hollen (Sensible Taxation and Equity Promotion (STEP) and other plan such as the American Families Plan, and the “For the 99.5% Act (Bernie Sauders)”  

Income Tax Changes 

  • Top income tax rates 37%-39.6% effective January 2022; > $509,300 for married, and $452,700 for single 
  • Restrict tax deferral, “like-kind exchanges” (swaps of real estate that avoid current taxation that a sale would tigger  
  • Capital Gains might double-(sale of stock, investment real estate, etc. ) qualified dividend with incomes over $1million taxed at ordinary rates. This could be triggered for gains after April 28, 2021 

Social Security Taxes 

  • To coordinate the net investment income and self employment taxes, so unlike current law, a company could pay the owner a reasonable salary or guananteed payment, the overage became federal taxable profits, but not defined as payroll taxes.   This was assuming that the salary, and withdrawals were reasonable  compensation .  

The proposal is to tax pass-through business income (e.g. S Corps, limited liability companies, partnership) of high income taxpayers will be subject to either the net investment income tax or the social security taxes.   

Audits from the IRS: $80 BILLION increase over 10 years for IRS for audits.  

Estate and gift tax:  

  • Bernie Sanders proposal (For the 99.5% Act) calls for a return to lower estate and gift tax exemptions as well as significant changes to the rules on GRATs and grantor trusts 
  • Most dramatic:  Biden’s plan is to make the transfers of property by Giftand on assets owned at death (as of January 1, 2022) triggering events for capital gains taxes.  The gain is measured by the date of gift or death fair market value less basis.   
  • Exclusions: transfer at death to a US spouse.  

So there are other potential changes coming down the pike and we’ll have to wait and see.  Here is the bottom line:   

Split Interest Gifts: Grat’s ; watch for developments 

Grantor Trusts:  At Grantor’s death or trust is no longer revocable 

BOTTOM LINE- 

If you are a business owner with wealth in your business and you have not done any planning, it may be a good time to start thinking about a certified appraisal of your business and your holdings.  Also, you might want to start thinking about what your goals would be for passing your estate assets.  It’s to early to tell where the wind will blow and how you will be affected by any change, but it is not too soon to think of what you wish to accomplish in your estate and business planning. 

As I look some of the potential changes, Life Insurance Planning will become more significant in paying for the additional liabilities of passing your estate assets either by gift or death.  

To help you with your planning, I would like to offer to you my newly published Ebook called,”Unlocking Your Business DNA”. In the book I cover strategies I have used with business owners for over 50 years  with powerful strategies to create growth and profits in your business and also create an amazing amount of leisure time. 

To get the book, CLICK AND SUBMIT 
 
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If you with to receive a free business assessment of your business planning, take our ONE MINUTE SCORECARD SURVEY. Literally, it takes one minute to go through. Once submitted I will send you a FREE ASSESSMENT of our findings. We will be able to pin point the strong point and the points that you need to work on to create more business growth and profits.  

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More to come… stay tuned.  

Issues Of A Growing Company

This is a case study about   a company that did not have a buy and sell agreement in place.  The business has grown substantially.  The owners were concerned about the growth of the company, sacrificing larger salaries to invest and grow their business. 

The accountant recognized that there was a problem if there was a termination of a partner, and referred me to his clients to help educate  them on estate and business planning, and also to help them design a buy and sell agreement.   

Scenario:  

Bill and Sam started a very successful manufacturing company.  They produced the assemblies for hard drives. 

They are a C corporation and have scaled tahe business from four full time workers to about 34 employees. Their client base has grown from just a few to a few dozen over the years. 

One Page Issue(s) (With our team we identified these issues)

  1. The business has never been appraised so there is a question of the value of the company and estate.  
  2. Both partners have families and larger personal liabilities than when they started. 
  3. They have invested their earnings into the business and don’t have a retirement plan.
  4. They don’t have a binding buy and sell agreement, nor a method of funding the liability. 
  5. The owners are expecting the exemption credit to lower which will expose them to death taxes.
  6. Neither partner has done any estate planning, other than simple wills. 
  7. Retaining the key person in the firm who has the relationship with the customers, vendors and key contacts. Because he basically runs the company, the owners take a lot of time off.  They are concerned that the competition may try to recruit him.  If lost, it would have a major impact on the company.

Major issues and immediate concerns: 

  1. Potential fire sale of the firm if there is not a “planned design for buyout
  2. Uncertainty and instability for the employees, especially the key people in the firm.
  3. The possibility of the deceased partners family running the business with the surviving partner, leading to inexperienced leadership. 
  4. Lack of liquity to pay the taxes assessed on the value of the business and other administration costs. Without the valuation, it was a best guess estimate, jeopardizing accurate estate planning. 
  5. Business valuation disagreements, especially IRS litigation. 
  6. Lack of market for the business.
  7. The loss of income for the family.
  8. Lending from the banks could be cut off after the death of one of the owners. No  assurances that loans would be immediately available upon an owners termination. A concern that any new loans in the future may have convenants that credit lines would be redeemed upon a partners termination unless there was a valid buy and sell agreement. 
  9. Stress on the business’ cash flow or credit line  as a result of the surviving owner trying to purchase the deceased partner’s share. 
  10. The possibility of losing their key person to a competitor would be a significant loss to the firm.

One Page Solution

The most critical issues to solve now : 

  • Complete a Buy and Sell Agreement with funding/ both life insurance and disability insurance
  • A Certified appraisal to be done
  • Create strategies to keep the key person with the company
  • Start the process of personal estate planning for each partner

 There were other issues, but we all felt the buy and sell agreement was the most important at this point. 

One Page Solutions For Buy and Sell Agreement: 

  • Cross purchase buy and sell agreement funded with cross owned permanent life insurance
  • The insureds were about the same age
  • They were  both in great health
  • Premiums were about equal in cost, and the corporation would bonus the premium to the owners
  • Since the owners willl sell in the future, having the increased stepped up in basis would save taxes, as the partners plan on selling in the future.
  • Also wanted the insurance company to define full disability through the contract definition.

One Page Solution FOR KEY PERSON:  

A CEEP for the key person (Corporate Executive Equity Plan); For Key Person

  • Cash Equity for retirement
  • Tax free death benefit for family
  • Limited contribution by employee-basically paid in full by employer
  • Tax-free income at retirement- Will create about $200,000 tax free for 20 years at 66

There was a vesting schedule designed for the employee for 10 years. If he stayed he would have a much richer benefit than his 401k would provide

  • Non-compete, Non-recruiting  and solicitation of  employees of the firm,  and Non-disclosure agreement to be executed by key person

Estate Planning: 

Currently, working with the attorney on new wills, trusts, and an irrevocable trust for life insurance. There are some other things we are considering with real estate owned outside the state, such as LLC, AND inter vious trusts.

Triggers:  In the agreement we established the major triggers: death, disability, termination, retirement, divorce, bankruptcy.  We decided to use a disability income policy to fund that part of the plan.  We also wanted to have the definition of disability decided by the insurance company. 

As we move forward we are reviewing other issues yearly.  Also, forming the team with the attorney, CPA, and others was instrumental in accomplishing the results.  

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