Create your very own Auto Publish News/Blog Site and Earn Passive Income in Just 4 Easy Steps
The opinions expressed by Entrepreneur contributors are their own.
Entrepreneurs are busy. Often too busy for their own good, or at least for the good of their legacy. You're probably very focused on your balance sheet and profit and loss statement, but what about estate planning?
Putting off estate planning can create hidden costs for successful entrepreneurs. And the solution is available to you, no matter how young you or your business is today.
If you've seen the musical “Rent,” you probably hum along to the catchy song “Season of Love,” which reminds us that there are 525,600 minutes in a year. When you have a valuable business, every minute counts. Consider the cost of procrastination as a measure of the growing inheritance tax debt that can become a liability for your family and affect your ability to leave an inheritance.
To put this into perspective, let's say a net worth of $50 million grows at 7.2%. The additional inheritance tax over ten years is approximately $20 million. That's an increased tax bill of $166,667 per month on average. A net worth of $100 million becomes $333,334 per month. Tick, tick, tick…
Related: 4 things you should know about borrowing money for your business after the Fed pivot
The hidden burden of inheritance tax
The problem for business owners in particular is that estate tax can be a “hidden liability” because it is an obligation that the family pays directly to the IRS in cash after your death. We call it hidden because this liability has an unknown due date and an unknown amount.
If you are the CFO or underwriter of your lender, the liability may be hidden because it is a matter of estate and family planning and not a direct corporate obligation. However, if the majority of your net worth is tied up in the business or other illiquid assets such as real estate, it is no longer hidden when millions of dollars come due. Thus, the tick, tick, tick becomes “BOOM!”
For a private business owner, the way this is handled can mean the difference between gaining and maintaining a competitive advantage for your business and your heirs or losing that advantage.
For example, a business owner with a net worth of $75 million must ask himself the question: How do you pay $20 million in cash taxes to the IRS and still remain competitive in your industry segment? No business owner wants to sell their business to pay off the estate tax debt.
Related: 7 Advanced Tax Strategies for the Self-Employed
The right position for a zero inheritance tax plan
Conversely, proper planning and positioning can actually provide an opportunity to improve your long-term competitive position. Inheritance tax is the only “voluntary tax” you can impose. You may know it as a “zero inheritance tax plan” – and compared to your competitors who may not have a good plan, it can be a strategy to position your business for lasting success.
By the way, if you are over 55, it is not feasible to “finance the problem away” with life insurance. The cost of insurance will become unaffordable with each passing year, or worse, you may no longer be able to access it due to health problems that affect your ability to obtain adequate coverage.
Know and avoid this worst-case scenario
If you need an extra incentive to start thinking about your inheritance tax planning now—even if you're under 55 and in good health—consider the impact your unexpected death could have on your estate based on timing alone.
We know that most industries – and the companies that make up an industry – go through significant business and economic cycles, typically every 4-6 years. Imagine a scenario where the business owner dies at the peak of the economic cycle, setting the amount due as inheritance tax.
Because the wealth is tied up in an illiquid asset (the business), it takes several months to a few years to sell the business to pay the estate taxes. Unfortunately, an economic downturn shortly after death pulls the value of the business down. Essentially, the premature death of the business owner has put the otherwise healthy business in a position for a fire sale simply to pay the estate taxes.
Related: 3 smart ways entrepreneurs can make tax-efficient investment decisions
Plan your beneficiaries strategically to avoid inheritance tax
At my company, we like to say that there are only three beneficiaries of your estate: the IRS, family, and a charity. Your employees may be able to become a fourth beneficiary, but again, that's unlikely without a plan. Therefore, “planning away” the problem is the most effective way to minimize or avoid inheritance tax consequences.
It is possible to strategically position your estate and divert the IRS inheritance tax to the other beneficiaries. Instead of 60% family and 40% IRS, a good plan can result in it going closer to 75% family and 25% to charities or other beneficiaries.
Related: Capital gains tax on real estate: What you need to know
Create a SMART plan to maintain family harmony
Have you ever heard someone lament, “My parents built a great company, but my brother ruined it?” The reality was probably that the brother couldn't handle paying the IRS around 50% of the company's value while struggling to keep the company competitive. So it's not just the money that hurts due to poor planning; there can also be arguments and litigation among family members. Business succession and estate planning must be done in a way that ensures an efficient and harmonious transition. It's a SMART (Save Money And Reduce Tensions) plan for wealth transfer.
This task is urgent, and not just because of unforeseen events. The impending expiration of current inheritance tax laws at the end of 2025 will only exacerbate the burden. You have a good time horizon if you start now and spend a few hours turning a growing inheritance tax liability into a multi-generational asset for the family and your community. Start by asking your colleagues or advisers for their views and who you could invite onto your team to help you create a plan that will set you and your legacy up for success.
Create your very own Auto Publish News/Blog Site and Earn Passive Income in Just 4 Easy Steps
