One of the more common topics for family business owners is the design and implementation of smooth intergenerational succession. We appreciate that this is one of the most challenging and sensitive topics facing family businesses but it is a critical factor in the business’s sustainability and survival.
The intent of this article is not to completely cover this highly relevant and broad topic but rather to identify and elaborate on some issues that could be helpful in making this process more successful for all parties involved. This article will address estate planning as a potential barrier to achieving succession and highlight how personal accounting could play a role in addressing this barrier.
Estate planning as a barrier to succession
One point that has come up in practice as a reason to defer discussion of intergenerational succession is the fact that the aging entrepreneur has yet to solidify their estate and retirement plans. The aging business owner will often say that it is important to get this planning done before making progress on the intergenerational succession plan. It is difficult to argue this excellent point. In other words, it is difficult to expect older entrepreneurs to engage in meaningful succession planning without first putting together thoughtful estate and retirement plan for themselves.
And so, without the estate and retirement plan, the succession plan is in the ice box and both generations can become frustrated at having succession as the elephant in the room. Other issues can create barriers to succession but let us focus on the lack of an estate and retirement plan for now.
What if there were a regular accounting of the personal transactions of the entrepreneur and tabulation of personal assets and liabilities; that is, a statement of personal net assets?
Personal accounting defined
Through my many years of experience in public accounting practice, the one common quality I have seen with family business owners is their passion and focus on their business. I am always amazed at how aging entrepreneurs seem to have a sixth sense for their business and at how they always seem to know what their business owns, owes, and earns. As external accountants, we have to go through a year-end wrap up process to grasp that information, but many entrepreneurs have perpetual insight into these details. Yet, when it comes to discussing their personal balance sheet and related matters, their level of insight is often relatively low.
Why is that? We know that, as human beings, we have a finite amount of energy. Perhaps it makes complete sense that when one area of life requires extreme focus, another area will receive less focus – sometimes, not enough. That seems to be a common thread among founders and older entrepreneurs. But perhaps it’s not surprising.
What should a business owner do about this? Well, the business invests resources into regularly accounting for all of its transactions and reporting assets, liabilities, and profits to its shareholders and lenders. This reporting cycle can be extremely valuable over time in helping the entrepreneur gain insight into the business and continuously make informed business decisions.
So why don’t entrepreneurs do the same for their personal affairs? What if there were a regular accounting of the personal transactions of the entrepreneur and tabulation of personal assets and liabilities; that is, a statement of personal net assets?
The relevance of personal accounting in estate and retirement planning
In working with estate lawyers helping clients finalize their wills, we have seen that the will is often void of or deficient in one of the key ingredients to an optimal will or estate plan: a complete statement of personal net assets. That statement drives many other factors in estate and retirement planning, including the following:
Determining what assets are actually part of the estate. Without having a readily available itemized statement of personal net assets, it is extremely difficult to know what assets are going into the estate. Not all of a person’s assets necessarily transfer into the estate. For example, the entrepreneur may have assets for which the beneficiaries are individual family members and not the
estate itself. Quantifying these assets could have an impact on coming up with a fair and equitable formula in distributing the actual estate assets.
Determining personal wealth. Perhaps this is stating the obvious but the statement of personal net assets defines the amount of personal net wealth. The level of personal wealth is a key initial driving factor in working with a financial advisor to formulate a retirement income plan and assess whether the entrepreneur has enough personal wealth to afford retirement.
Estimating the tax liability on death. The statement of personal net assets is a key initial source of data that a tax accountant can use to estimate the tax liability on death. Knowing what the assets are is essential in estimating the tax payable on their deemed disposition on death.
Assessing estate liquidity. The statement of personal net assets will show the level of liquidity available to the entrepreneur’s executor(s) on death. Early identification of an estate liquidity concern, particularly when it comes to paying tax due on death, can be very helpful in proper estate planning.
The above are a sample of the reasons to have a complete statement of personal net assets readily available.
What is involved in personal accounting?
From the above, you can see that personal accounting can be helpful in estate and retirement planning, but what is involved in adopting personal accounting? Simply put, it is not that different from corporate accounting, where you provide your accountant with a list of the assets, liabilities, and transactions for the period you want accounted for. Without getting into further detail, it is important to engage with your accountant to explore the precise terms of reference for such an exercise. Your accountant should be able to work withyou to produce the desired output, which is
likely a statement of personal net assets at a specific point in time.
The case for personal accounting in resolving delay in formulating an estate and retirement plan and ultimately an intergenerational succession plan is supported by the basic premise that indecision can often be remedied with relevant data. In this case, that relevant data is a complete and accurate statement of personal net assets.
First published in the September 2018 edition of The Business Advisor.