By: Patrick Ungashick
If your exit strategy is to one day pass your business down to one or more of your family members, which we call following a “Passer” exit strategy, then the new tax laws effective January 1, 2018, present a radically changed landscape for your exit planning.1 Business owners who are Passers and intend to keep the business within the family need to know what the new laws include, and how to best achieve your exit goals now that the rules have changed.
The Tax Cuts and Jobs Act (TCJA) is perhaps the most sweeping US tax law change in several decades, with a long list of changes to corporate tax rates, personal income tax rates, and other areas. However, it is how TCJA has changed estate and gift taxes that presents the biggest news for owners who may be Passers. The reason why Passers must pay special attention to estate/gift/generation-skipping taxes is that these taxes often present the greatest potential cost and obstacle to transferring the business down to the next generation.2
For Passers, TCJA presents good news—somewhat.
The biggest potential good news for Passers under TCJA is that the number of assets that can be sheltered from estate/gift/generation-skipping taxes has doubled, from about $5.5 million per eligible taxpayer to about $11 million per taxpayer starting in 2018. If married, that means an eligible couple can now shelter about $22 million in total assets from estate/gift/generation-skipping taxes. For business owners seeking to one day pass the business down to the kids (or other family members) for low to no taxes, this is huge news. As long as your interest in your business is potentially worth less than $22 million, under TCJA, you can pass the business for zero taxes. If your business interest is worth more than $22 million, you still get the first $22 million of asset transfers tax-free, and then work with your tax and legal advisors to consider additional strategies to address the taxes that may be triggered above the $22 million thresholds. (The top estate/gift/generation-skipping tax rate remains 40% under TCJA.)
"What Congress giveth, Congress can taketh away too"
It would be helpful if the story stopped right there, however, what Congress giveth, Congress can taketh away too. The tax law change that doubles the amount you can shelter from estate/gift/generation-skipping taxes expires on December 31 st , 2025. After then, unless Congress takes new action, the amount you can shelter from these taxes reverts to the pre-TCJA amounts. That presents both an opportunity and challenge for Passers. It means you have only eight years from when the law kicks in to take advantage of it before the old limits re-apply. Eight years from the time of this writing may seem like a long time, but there is a lot to take into consideration when passing a business down to the kids or other heirs:
- Are you ready to give up control?
- Are the kids ready to run the business? If not, will they be old enough and ready in time?
- How will you make sure you have sufficient assets and income to achieve your personal financial goals, once the business has passed to the next generation?
- Do you have kids who are not working in the business? If yes, how do you treat them fairly without splitting up the company?
These are just some of the questions many Passers face, and now there is a countdown clock ticking down that puts pressure on Passers to figure out the answers before the end of 2025.
Put this all together, and it means if you are a Passer, it’s time to get started on your exit planning. Or if you have started already, you'll likely need to conduct a thorough review of your exit plans because the rules of the game have changed—at least for a while. Meet with your exit, tax, and legal advisors to discuss how to achieve your exit goals under these new tax laws.
1. There are only four possible exit strategies. If your intended exit strategy is to pass your business down to a family member, we call this being a “Passer”. Click here to learn about the three other exit strategies, and to help discern which may apply to your situation.
2. For a full discussion how these taxes work and impact business owners, order a copy of Dance in the End Zone: The Business Owner’s Exit Planning Playbook™ by Patrick Ungashick.