In the last issue of Exit Planning Navigator®, we introduced you to the hypothetical
case study of Mike Jones, a 51-year-old owner of a successful scaffolding company and
the father of two sons – one of which was active in the business and was interested in
taking over the company upon Mike’s departure. Since Mike also had a non-business
active son in the picture, the issue of providing an equitable distribution of his estate
among his children weighed heavily on Mike’s mind.
When Mike first met with his Exit Planning Advisor, he outlined the following planning
• He wanted to provide a comfortable income for him and his wife, Sharon, during
his lifetime. Mike also wanted that income to continue for Sharon in the event of
• Primarily at his wife’s insistence, he wanted to provide an equitable distribution
of the estate to his non-business active son after both he and his wife died.
• Finally, he was reluctant to pay any estate taxes.
To see how Mike and his Advisor Team created a comprehensive Exit Plan that not only
included his estate plan, but also addressed the issues associated with distributing
business and non-business assets to both of his business active and non-business
active children, let’s revisit the hypothetical Mike Jones case study.
Mike and his wife lived comfortably, but not lavishly, on his salary of $200,000 per year.
He wanted to maintain this income amount as long as he lived. At Mike’s death, his wife
could live comfortably on $120,000 per year. Mike’s Advisor Team first reviewed his
estate. Mike’s simplified balance sheet looked like this:
Fair market value of business .............. $1,000,000
Net equity in building ............................... $500,000
Net equity in residence ............................ $250,000
Outside liquid investments ....................... $250,000
Life insurance ........................................ $1,000,000
Mike’s total estate, for estate tax purposes was $3 million. Concentrating on the estate
tax issues, Mike decided to give his business active son, Patrick, 49 percent of the
business, worth $325,000, (using a minority discount) in order to remove half of the
future appreciation of the business from Mike’s estate. He also entered into a deferred
compensation agreement with the company. The agreement provided for a $50,000
annual payment to Mike if he terminated employment for any reason other than his
death. In that case, his estate would receive nothing under the deferred compensation
agreement. The agreement was originally designed to run ten years. It isimportant to note that the payments totaling $500,000 to Mike and his family in effect
replaces the “lost” value of one-half of the business via the gift to Patrick. After the
deferred compensation plans were paid off, Mike also agreed to sell his remaining
interest in the business to Patrick. They signed a purchase agreement with Mike to
receive payments on the installment note for the purchase of his remaining interest –
after the deferred compensation had been paid off.
Mike then entered into a buy-sell agreement with Patrick so that he and the business
became obligated to purchase Mike’s stock if he left the company for any reason,
including death, disability or planned retirement in five years. The purchase price was
the fair market value of Mike’s remaining stock, worth $550,000 at present.
Next, Mike’s Exit Planning Advisor redesigned the Jones family estate plan. The
advisor prepared an irrevocable life insurance trust and transferred all of the life
insurance into it. The beneficiaries were Mike’s wife, Sharon, and both children. The
oldest son, William, would receive the first $500,000 for the remaining trust estate at his
mother’s death. Thereafter, the two sons would divide equally whatever amount was
left, if any.
The $500,000 additional benefit to William is an attempt to equalize the lifetime gift to
Patrick. We say “attempt” because if their mother lives for another 35 years (her
probable life expectancy), William would not receive any money until then, while Patrick
has enjoyed his gift for those 35 years.
On the other hand, when William does receive his share of the inheritance, it will likely
be in cash or its equivalent, while Patrick receives his share in the form of closely held
stock. This will bind Patrick to the family business, including all of the risks associated
in owning a small business. His presence will provide the continuity of management
required during the buyout of his father’s stock, as well as the payment of the deferred
Because Patrick is taking more risk, it can be argued that he is earning the stock given
to him since he has agreed to stay on and provide a means for his father to receive
money for his retirement or death – either through the stock sale or the deferred
As illustrated in the Mike Jones case study above, it can be difficult to provide for fair
distribution of your estate in the case of multiple children. The first step is to work with
an Exit Planning Advisor to identify your lifetime and estate planning objectives, within
the realm of your overall Exit Plan, and create an actionable plan that can be
implemented within your specific timeframe.