A recent survey by the Canadian Federation of Independent Business (CFIB) shows that one-third of owners of small and medium-sized businesses plan to exit their business in the next five years, with retirement being cited as the main reason.
However, the survey also showed that most business owners are not adequately prepared to transfer control of their businesses. Only 10% of respondents have a formal succession plan in place, 38% have an informal (unwritten) plan, and 52% have no plan at all.
Business succession planning can be complicated. There are a number of things to consider, such as retirement planning, tax-reduction strategies, and mediating family issues.
What’s business succession planning?
It’s about taking control of your eventual exit from your business and thinking about the next stage of your life. This is essential for entrepreneurs who will rely on it as a primary source of retirement income.
Business succession planning is a process, not a one-time event. It involves exploring all of your options in order to protect your investment in your business, ensure its future stability, satisfy stakeholders (family members, employees, and partners), select a successor, and set a timetable for transfer of ownership.
Starting the process
Because your business is well established, it’s a good idea to start thinking about a succession plan today.
For instance, if something were to happen to you, who would assume your responsibilities? Could the business continue to function if you were to suffer a disability? Would there be enough income for you and your family to sustain your current lifestyle?
Succession planning begins with your business contingency plan. You also need a power of attorney. This authorizes someone to manage your business in case you are unable to, and lays out the succession process in the event of your death.
Life and disability insurance, an up-to-date will, and financial planning considerations (your desired retirement income, projecting the future value of pensions, and registered Retirement Savings Plans) should also be part of the early stages of succession planning.
It’s also really important to sit down with your family and have a frank discussion about how you intend to exit your business. It can save a lot of emotional hassle down the road.
Keeping it in the family
Many entrepreneurs work hard to build up their business with the intention of passing it on to their children.
However, family-owned businesses present their own set of challenges. Squabbles at home can affect the business, and there may be disagreements over responsibilities and money.
This is why only one-third of Canadian family businesses stay afloat in the second generation.
- Start by identifying possible successors: Do your children want to be involved in the business? If more than one child is interested, can they work together? How will authority be divided? What arrangements can be made for those who don’t want to be involved?
- Training your successor: Do you need to set up a formal training program for your children? Is it better to work closely with them for a period of time, slowly passing along important responsibilities on the way to full control and ownership?
- Transferring ownership: How and when to transfer ownership will involve many tax and legal considerations. For instance, you may be able to limit the taxes resulting from the transfer by selling or gifting shares of the business to your children when the shares’ market value has fallen. An estate freeze is another way to pass a family business to the next generation in a tax-effective manner.
Financial and technical issues
Whether you intend to transfer your business to a family member, a business partner, or sell it to a third party, there are many technical issues to consider.
- These include determining:
- The value of the business
- An optimal share ownership structure
- The tax implications of a transfer or sale
- The division of future profits
- How to finance the acquisition
The softer issues in succession planning (identifying a successor, resolving family disputes) together with the technical issues can be complex.
That’s why it’s smart to involve a team of professionals at all stages in the process, such as your lawyer, accountant, financial advisor, and estate planner.
Your Scotiabank Business Banker can help you kick-start the succession planning process and put you in touch with experienced professionals as needed.
