Estate Planning and Business Transition Issues Not to Overlook Before the Year-End (Updated 12/11/20)
Believe it or not, we are now in the final stretch of 2020. There are many things still to do and plan for before the end of the year. When reviewing your year-end estate planning or business transition concerns, there are several things to contemplate and review, such as year-end gift giving, valuations, and tax considerations, including issues specific to those who took out Paycheck Protection Program (“PPP”) loans.
Below is a list of items we’ve identified that you might want to consider as you plan for the end of the year and future transitions. If you need additional assistance with year-end gift or charitable giving, estate planning, income tax, or other gifting opportunities and valuation issues and would like to engage with an attorney, we encourage you to reach out to Schwabe’s Tax and Estate Planning professionals today. Additionally, our Privately Held Businesses & Enterprise team is available to assist with business transition concerns.
At this time, federal gift tax exemptions are at an all-time high. These are use-it-or-lose-it types of exemptions and have year-end implications. Now is also the time to take advantage of lower valuations due to the COVID-19 pandemic (see below for issues with valuations). Areas to consider are:
- Marketable securities
- Business interests: includes outright gifting and using family and other entities to remove future appreciation from taxable estates
- Charitable gifts: see below for the CARES Act additional charitable allowances
- Appreciated long-term capital assets
There are several considerations for year-end estate planning, including estate and gift tax planning rollbacks and whether your current estate plan needs a tune-up.
- Estate and gift tax planning rollbacks: The current federal estate and gift tax exemption amount is $11.58 million. However, this exemption is temporary and set to roll back to the prior federal law in 2026. The exemption amount will be $5 million adjusted for inflation—so about one-half of the current amount. With the current state of affairs, this rollback (or other significant changes to the estate tax rules) could occur and apply in 2021. Taxpayers might lose this increased exemption if they do not make lifetime gifts by December 31, 2020. This loss might result in increased federal and state estate taxes upon the taxpayer’s death. We encourage you to confer with your estate planning attorneys and other professional advisors to discuss whether a lifetime gift makes sense for your family. It is important to engage in these discussions sooner rather than later—you shouldn’t wait!
- Estate planning: There are so many things to consider when reviewing your estate plan, especially in such tumultuous times. For your convenience, please check out When to Tune Up Your Estate Plan and Four Critical Steps to Estate Planning During Uncertain Times.
The 2020 Coronavirus Aid, Relief, and Economic Security Act (“CARES Act”) encourages additional charitable giving in 2020. It allows a $300 above-the-line deduction for cash charitable gifts for non-itemizing taxpayers, and increases the charitable deduction adjusted gross income percentage cap from 60% to 100% for itemizing taxpayers. For more details, see The CARES Act and Charitable Giving.
Due to the uncertainty of tax situations in the future, before year-end, individuals and business owners should discuss, with their tax and estate planning professionals, the timing and effect of possible changes to:
- Individual income tax rates—state and federal
- Carry back losses
- Basis or cost
- C corporation losses
- Corporate income tax rates—state and federal
- 1031 Exchanges
- Capital gain rates
- Estate and gift tax exemption amounts
- Suspension of required minimum distributions for qualified retirement plan accounts
In general: Many estate and business succession planning tools require a valuation of a business or real property or other assets. The best valuations are done by independent third parties, and these take time. Please plan ahead: it might already be too late for 2020. There are many reasons for valuations: succession planning, estate planning, stock and option programs, partnership splits, refinancing, recapitalization, divorce, etc. There is inherent tension on the reasons for the valuation and the use of the valuation. For example, for estate and succession planning purposes, lower valuations are desired. However, for stock redemption and option programs, the valuations often need to be at fair market value. Please keep these items in mind when securing and using a valuation.
Gifting opportunities and valuation issues: The economic effects of COVID-19 have adversely affected many business. This provides a potential opportunity to take advantage of depressed valuations to accelerate gifting for owners that plan on transferring ownership to the next generation. When making such gifts, the best practice is to work with an estate planner who can hire an independent third party to perform a valuation of the business. Such valuations take time.
When making such gifts, it is important to take a consistent position on the valuation of the business. In most situations, the owners of a business wants to claim a high valuation. However, when making gifts, the owners often want to claim a low valuation to minimize their potential tax liability. This creates some risk when the owners are seeking a high valuation in certain situations and a low valuation for estate planning and gifting. Business owners should make sure their advisors are aware of any recent sales of equity in the business and the valuation used in such transactions. Furthermore, if a business has a buy-sell agreement, business owners should make sure that their advisors are aware of any provisions in such agreements that set a valuation, such as built in formulas. It might be difficult for a business to claim a lower valuation than the one implied by the buy-sell agreement.
If a PPP loan was obtained, please be aware that there might be timing issues for year-end planning and tax issues and forgiveness. Those issues include:
- Any changes in ownership or change in structure might require prior approval from the lender and certain changes will require SBA approval or other requirements. Such approvals or requirements can take from two to eight weeks. Since they are loan requirements, they will affect forgiveness. Please talk to your lender prior to any change in ownership.
- Non-deductibility of certain expenses, such as expenses paid with forgiven PPP loans.
- The forgiveness process takes time—at least five months from the date the application is accepted, and likely longer if the loan is over $2 million.
- Open questions—there are many gray areas, but make sure to document your conclusions.
For additional details, please see IRS Issues Guidance Regarding PPP Loan Forgiveness and Deductibility of Expenses, Why You May Want to Wait to File for PPP Loan Forgiveness and Other Tips, and Ten Things to Know About the PPP Loan Forgiveness Applications.
Now is the time to reassess your business transition plan due to lower valuations and changing circumstance. Aligning business strategy with your transition and estate plan is more important now than ever, as the down economy might have the effect of shrinking the pool of interested and qualified buyers while at the same time accelerating owners’ desired timeframe for retirement. The current hot issues are: (a) valuations post-COVID-19 and re-building enterprise value after COVID-19; and (b) timing and strategy considerations for selling businesses post-COVID-19. For more details, please visit the Schwabe Privately Held Businesses & Enterprises page.
To help understand the full spectrum of proactive legal measures you can take for estate planning and business succession, we encourage you to reach out to Schwabe’s Tax and Estate Planning professionals or Privately Held Businesses & Enterprises team today.
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