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Planning for Succession in your Business

Planning for Succession in your Business

Family businesses comprise approximately 90% of the businesses in the United States. Yet only about one in three survive to the next generation and one in ten to the third generation. Why? The closely-held family business often fails for the same reason that it originally succeeded. It relies on its uniqueness – the compassion and loyalty among the family members not present in other companies – to generate a dynamic viability to the company. Yet this uniqueness may also lead to distrust within the family and disruption of the family business as an ongoing entity.

To prevent the demise of the business, the family should create and implement a strategic business succession plan. This plan should integrate business, tax and liquidity considerations with the emotional and financial needs of the family and the needs of the business to achieve continuity and growth for the future.

The goals of a business succession plan for each family are unique to that family, but center around several core determinations. The family must decide:

  • Who will be the future owners? Will they include key employees? Will they include only family members participating in the business? Who of the owners will retain control?
  • How and when will the owner transfer control? Will the business be transferred to the next generation? Are there capable leaders, whether or not family members, to own and manage the business in the future? Or will it have to be sold? Will the business survive the imposition of estate taxes at the death of the owner?
  • How will the family harmonize business and family needs? Does the family recognize that the needs of the business to grow, adapt to changes in the marketplace and aggressively face challenges are different from the needs of the family to remain compatible and unified? Will the family remain compatible if certain members receive greater rewards for their participation in the business and what can be implemented to equalize, to the extent possible, the rewards?
  • How will the family successfully integrate its personal values and relations into the business without disrupting the ongoing needs and growth of the business? Do the family members communicate among themselves regarding these values and business goals?
  • Who will manage the business in the future? Who will control the selection of management personnel and what rights will exist to change management? Will management have too much control? Will management be able to continue operating the business as a viable, successful entity without interruption or demands from family members not involved in the business?

With a general consensus on these core determinations, the family can begin to create its strategic business succession plan. It is often in this planning process that the family will flesh out the answers to some of these questions.


The “Disregarded Multi-Member Limited Liability Company” as a Gifting Vehicle

The “Disregarded Multi-Member Limited Liability Company” as a Gifting Vehicle

A “disregarded multi-member limited liability company” (“Disregarded MM LLC”) is a multi-member limited liability company for state law purposes but is disregarded as an entity separate from its owner for federal income tax purposes. All of the members of the Disregarded MM LLC are grantor trusts, with the same individual senior family member (“Senior”) serving as grantor of all such grantor trust members. One such trust member might be Senior’s revocable trust, and the other trust members might be intentionally defective grantor trusts established by Senior for the benefit of his children or grandchildren (“Lineal Trusts”).

From a cost savings perspective, this structure allows a client to avoid filing an annual federal income tax return for the Disregarded MM LLC. Further, the use of the “disregarded entity” adds significant value to the structure through enhanced asset protection and the opportunity to utilize valuation discount principles in making the gifts. In addition, the forgoing structure achieves income tax neutrality because the Disregarded MM LLC’s existence is ignored for federal income tax purposes. Similarly, because the Lineal Trusts are income tax defective, their existence is ignored for federal income tax purposes, and because the grantor bears the federal income tax burden with respect to the Lineal Trusts, the growth of the assets contained in such trusts is accelerated.

A wide variety of assets could be contributed by Senior to the Disregarded MM LLC to set the stage for tax planning involving the utilization of lifetime gift tax credit. The following example illustrates the potential of the Disregarded MM LLC for making gifts in a scenario where an entity classified as a partnership for federal income tax purposes could not be utilized.

Senior is the grantor and sole lifetime beneficiary of a revocable trust (the “Revocable Trust”), which Revocable Trust owns one or more installment sale notes receivable (the “Notes”). Senior forms a single member limited liability company under Florida law (the “LLC”), contributing the Notes to the LLC in exchange for 100% of the membership interests. The LLC is comprised of 100 Class A Voting Units and 9,900 Class B Non-voting Units (the “Non-Voting Units”). For federal income tax purposes, the LLC is disregarded as an entity separate from its owner unless the LLC elects to be treated otherwise. The LLC has not made such an election.

Senior establishes three (3) Lineal Trusts with Senior as the grantor. The beneficiary of each of the Lineal Trusts is one of Senior’s children. Senior transfers by gift one-third (1/3) of the Non-Voting Units to each of the Lineal Trusts in exchange for a membership interest in the LLC. The LLC is now a multi-member limited liability company for state law purposes but for federal income tax purposes is disregarded as an entity separate from its owner. The Lineal Trusts now own 99% of the LLC.

In general, a gift of an installment sale note receivable – including a gift of a partnership interest in a partnership holding installment notes receivable — is treated as a disposition made other than a sale, exchange, or satisfaction at face amount, in which case the donor immediately recognizes a gain in an amount equal to the spread between the fair market value of the note on the date of the gift and the adjusted basis of the donor in the installment note receivable. However, the transfer of an installment note receivable to and from a grantor trust is not a taxable disposition. Similarly, the transfer of an installment note receivable from a grantor trust to a disregarded entity wholly owned by the grantor should not be a taxable disposition. Thus, neither the contribution of the Notes by Senior to the LLC, nor the gifts of the Non-Voting Units by Senior to the Lineal Trusts, should result in an acceleration of the Notes under the installment sale rules.

Again, the use of the “disregarded entity” adds significant value to the structure through enhanced asset protection and the opportunity to utilize valuation discount principles in making the gifts. In addition, the forgoing structure achieves income tax neutrality because the LLC’s existence is ignored for federal income tax purposes. Similarly, because the Lineal Trusts are income tax defective, their existence is ignored for federal income tax purposes. Thus, Senior is deemed to be transacting with himself, and the whole series of transactions should be ignored for income tax purposes under the theory of Rev. Rul. 85-13. However, the advisor must be careful to ensure sure that (i) the LLC retains its status as a “disregarded entity”; and (ii) the Lineal Trusts retain their status as “intentionally defective grantor trusts” at all times prior to the complete satisfaction of the Notes.
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Rev. Rul. 2004-77, 2004-31 I.R.B. 119 (8/2/2004); Regs. Section 301.7701-2(a)(providing that (i) a business entity is any entity recognized for federal tax purposes (including an entity with a single owner that may be disregarded as an entity separate from its owner under Regs. Section 301.7701-3) that is not properly classified as a trust under Regs. Section 301.7701-4 or otherwise subject to special treatment under the Code; (ii) a business entity with two or more owners is classified for federal tax purposes as either a corporation or a partnership; (iii) a business entity with only one owner is classified as a corporation or is disregarded); Regs. Section 301.7701-2(c)(1) (providing g that, for federal tax purposes, the term “partnership” means a business entity that is not a corporation under Regs. Section 301.7701-2(b) and that has at least two owners); Regs. Section 301.7701-2(c)(2)(i) (providing that a business entity that has a single owner and is not a corporation under Regs. Section 301.7701-2(b) is disregarded as an entity separate from its owner); Regs. Section 301.7701-3(a) (providing that (i) a business entity that is not classified as a corporation under Regs. Section 301.7701-2(b)(1), (3), (4), (5), (6), (7), or (8) (an eligible entity) can elect its classification for federal tax purposes; (ii) an eligible entity with at least two owners can elect to be classified as either an association (and thus a corporation under Regs. Section 301.7701-2(b)(2)) or a partnership; and (iii) an eligible entity with a single owner can elect to be classified as an association or to be disregarded as an entity separate from its owner); Regs. Section 301.7701-3(b)(1)(providing that in the absence of an election otherwise, a domestic eligible entity is (a) a partnership if it has at least two members, or (b) disregarded as an entity separate from its owner if it has a single owner).

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Regs. Section 301.7701-3(b)(1)(ii). All Section references contained in this Article are to the Internal Revenue Code of 1986, as amended (the “Code”), or to the Treasury Regulations promulgated thereunder (“Regs”).
Rev. Rul. 60-352, 1960-2 CB 208 (gift of partnership interest in a partnership that held installment notes receivable resulted in acceleration of all deferred gain); Regs. Section 1.453-9(b)(2)(Holder’s basis in installment note receivable is an amount equal to the excess of the face value of the obligation over the total amount receivable by the holder if the note were completely satisfied).
Rev. Rul. 74-613, 1974-2 CB 153.


Getting Married?  Know your spousal property rights.

Getting Married? Know your spousal property rights.

If you are contemplating marriage, you should be aware that in Florida, spouses have certain legal rights to each other’s property in the event that one spouse dies, just by virtue of the fact that they have walked down the aisle.

A surviving spouse’s property rights are guaranteed by Florida law and cannot be altered unless the surviving spouse has waived them. One of these rights is the right to an interest in the deceased spouse’s homestead property. If a person is a permanent resident of Florida and owns and resides in a residence in Florida, then that residence will typically be considered “homestead” for legal purposes. A surviving spouse is entitled either to the right to live in the deceased spouse’s homestead for his or her life (which is referred to as a “life estate”) or to an undivided one half (1/2) interest in the deceased spouse’s homestead. This is the case even if the surviving spouse does not own an interest in the homestead property. In some situations, a surviving spouse may even be entitled to a fee simple interest in all of the homestead property. In practical terms, this means that the deceased spouse cannot disinherit the surviving spouse of his or her homestead rights without the surviving spouse’s consent.

Florida law also provides that a surviving spouse has the right to an elective share in the deceased spouse’s estate unless this right is waived by the surviving spouse. By law, the surviving spouse can elect to receive thirty percent (30%) of all of the deceased spouse’s assets, including real estate, cash, securities, revocable trust assets, some irrevocable trust assets, life insurance policies, pension and retirement plans. The elective share is in addition to the surviving spouse’s right to the deceased spouse’s homestead property. As with homestead, Florida law on elective share prohibits the deceased spouse from disinheriting the surviving spouse without the surviving spouse’s consent.

Consent of the surviving spouse can be given either through a prenuptial agreement prior to marriage or through in a postnuptial agreement after marriage. If the surviving spouse waives his or her right to homestead property and elective share in such an agreement, the deceased spouse may legally devise his or her assets to whomever he or she chooses without limitation.


The American Taxpayer Relief Act of 2012

The American Taxpayer Relief Act of 2012

In the wake of the media hype surrounding the fabled “fiscal cliff”, Congress and the President have passed the American Taxpayer Relief Act of 2012 (the “Act”). To assist you in understanding the implications of the Act, the following is a brief yet comprehensive summary of the landscape for federal income, estate, and gift taxes beginning January 1, 2013.

  1. For single taxpayers with taxable income in excess of $400,000 and for joint filers with taxable income in excess of $450,000, the maximum tax rates for qualified dividends and capital gains will now be 20% (factoring in the 3.8% Medicare tax attributable to Section 1411, the effective rate will be 23.8%) instead of 15%. The maximum tax rate for all other taxpayers remains at 15%; moreover, a zero-percent rate will continue to apply to qualified capital gains and dividends to the extent income falls below the top of the 15% tax bracket.
  2. A 39.6% rate will apply to joint filers with taxable income in excess of $450,000 and for single taxpayers with taxable income in excess of $400,000 (up from 35% in 2012). Otherwise, the Act preserves all of the tax rates from 2012.
  3. The Act did not affect the 3.8% Medicare tax which went into effect January 1, 2013. Thus, for single taxpayers with taxable income in excess of $200,000 and for joint filers with taxable income in excess of $250,000, the 3.8% Medicare tax applies to interest, dividends and other investment income as well as income from trades or businesses in which the taxpayer is a passive investor. For example, if a single taxpayer had $150,000 of W-2 income and $125,000 of net investment income, the tax would be assessed against $75,000 which is the excess of the $275,000 AGI over the $200,000 threshold amount for single taxpayers, and would result in an additional $2,850 tax liability.
  4. The Act results in a permanent increase in the Alternative Minimum Tax (“AMT”) exemption amounts. The AMT exemption amount for the 2013 taxable year is $80,800, less 25% of AMTI exceeding $153,900(zero exemption when AMTI is $477,100) for joint filers and surviving spouses, and $51,900, less 25% of AMTI exceeding $115,400 (zero exemption when AMTI is $323,000) for single taxpayers. For all periods following the 2012 taxable year, the AMT exemption amounts will be indexed for inflation.
  5. The Act sets the estate and gift tax exemption amount permanently at $5,000,000 per person, adjusted annually for inflation for all periods following the 2011 taxable year. Current inflation data suggests an estate and gift tax exemption amount equal to $5,250,000 for the 2013 taxable year.

    The Act continues the reunification of the gift tax and estate tax established in 2010 but increases the maximum gift tax rate and estate tax rate from 35% to 40%.

    The Act results in a permanent ability of estates to elect to transfer any of the decedent’s unused exemption amount to the surviving spouse, which unused exemption amount can then be applied against any tax liability of the surviving spouse attributable to subsequent inter-vivos gifts and testamentary transfers.

  6. The Act extended certain tax benefits including (i) the exclusion of cancellation of indebtedness income resulting from discharged qualified principal residence indebtedness; (ii) treatment of mortgage insurance premiums as deductible qualified residence interest; (iii) two (2) year extension of ability to elect to deduct state and local sales and use taxes instead of state and local income taxes; (iv) non-taxable IRA transfers to eligible charities; (v) two (2) year extension of above-the-line deduction for qualified tuition and related expenses for higher education; and (vi) the $1,000 child tax credit.
  7. Due to the expiration of the 2% payroll tax cut, the Social Security withholding tax rate on wages earned by employees has increased from 4.2% to 6.2%. For single taxpayers earning wages in excess of $200,000 and joint filers earning wages in excess of $250,000, the Medicare surtax withheld from wages has increased by 0.9% (from 1.45% to 2.35%).

Due to the exigencies of the circumstances and the fact that most of the changes were rate-driven, the Act does not contain much ambiguity. Thus, the Act itself does little to create new opportunities for creative tax planning. However, the new and separate 3.8% Medicare tax might present some planning opportunities.


Your Process Server Made a Mistake, Now What?

Your Process Server Made a Mistake, Now What?

Whether it’s serving the receptionist at a corporation or an individual under the age of 15 how can you correct your process server’s mistake?

Florida Rule of Civil Procedure 1.070(b) provides that “[w]hen any process is returned not executed or returned improperly executed for any defendant, the party causing its issuance shall be entitled to such additional process against the unserved party as is required to effect service.” In other words, once your process server makes a mistake, you are entitled to have the clerk issue a second summons so that you can effectuate service.

The question that arises when using this process is whether a Plaintiff must obtain a court order before causing the clerk to issue an alias summons. Although there is no clear answer, a few District Courts of Appeals have provided some guidance. For example, in Sunrise Beach, Inc. v. Phillips, 181 So. 2d 169 (Fla. 2d DCA 1965), the Second District approved the clerk’s issuance of an alias summons during the pendency of an appeal of the trial court’s order denying Defendant’s motion to dismiss for improper service. Similarly, in Punta Gorda Ready Mixed Concrete v. Green Manor Construction Co., Inc., 166 So. 2d 889 (Fla. 1964), the Florida Supreme Court approved the use of “insurance summons.” More recently, in Hawk Haven, et al. v. BMO Harris Bank, N.A., Case No. 5D-12-270, the Fifth District affirmed, per curium, a trial court’s order denying a defendant’s motion to quash an alias summons that was issued without a court order. Notably, the trial court has also approved the issuance of the alias summons nunc pro tunc to the date of issuance.

A Plaintiff faced with ineffectual service because of a process servers mistake should avail itself of the alias summons procedure provided by Rule 1.070(b).


Collecting on a Judgment under Florida Law

Collecting on a Judgment under Florida Law

As a judgment creditor, Florida law provides numerous methods through which you can collect the sum owed to you from the judgment debtor. There are numerous ways by which judgment creditors find the assets of their judgment debtors. One of the principal ways is through legally mandated disclosures. Typically, your final judgment will state that the court retains jurisdiction to ensure that the judgment debtor accurately completes a fact information sheet within 45 days. This form will identify all of the debtor’s real and personal property. If the debtor does not complete the form within the 45 days then the debtor may be subject to contempt proceedings and can be jailed or fined at the judge’s discretion. This fact information sheet should provide you with information regarding all of the judgment debtor’s assets. If you suspect that the debtor holds other real property that it has not divulged, you can always search the property records in neighboring counties via public, online databases. Nearly all Florida counties maintain online searchable property records whereby you can enter the debtor’s name and discover if he owns real property in that county. View databases for Florida counties.

In addition to the fact information sheet that the judgment debtor is required to complete, you have the right to conduct proceedings supplementary. This allows you and/or your attorney to send discovery to the debtor, including questions regarding the debtor’s assets and a request for copies of all documents regarding the same. You may discover that the judgment debtor transferred assets to third parties pre- or post-judgment in order to avoid collection procedures. More specifically, you could find that the judgment debtor sold real property during the litigation or near the time that the debt to you was incurred. With any information of this nature, you can subpoena and question “any” third party under oath who may now hold such property. If it can be shown that a transfer was made to delay, hinder, or defraud your collection methods, the judge has the power to void asset transfers and order the sheriff to levy assets wrongfully held. Per Florida law, the judgment debtor may ultimately be held responsible for the cost of these supplemental proceedings and collection efforts, although you would have to advance these costs and then seek reimbursement.

Judgment liens attach to real property by obtaining a certified copy of the judgment and recording the judgment in the property records of the county in which the judgment debtor’s real property is located. The judgment must contain your current address or in the alternative, you must attach an affidavit to the certified copy which contains your current address. Certified copies can be obtained from the County Civil Clerk for a minimal fee. While the civil clerk previously docketed and recorded your judgment, it is necessary that you obtain a certified copy of the judgment and file it with the clerk yourself, as required by Florida statutes. After this process is completed, any real property owned by the defendant in that county will be subject to your judgment lien for ten years and one renewable period of 10 years. A certified copy of the judgment should be filed in every county in which the judgment debtor owns property. You should also file a judgment lien certificate with the Florida Department of State which gives you priority over any other judgment creditors who file the certificate after you.

Moreover, each year Florida sets interest rates payable on judgments. Currently, the fixed interest rate is 4.75% per annum until it is paid or renewed. Note also that an unsatisfied judgment does not last forever. An unsatisfied judgment in the state of Florida will last for 20 years from the stamped date. If the judgment remains unsatisfied nearing the 20th year, it is advisable that you bring an “action on the judgment” in the same court in order to obtain a new judgment. This procedure will extend the judgment for another 20 years. At that point, you may be entitled to the new interest rate assigned for that year. Although your judgment is valid for twenty years, as stated above, it is only a lien on real property for ten years and then you must re-record for the lien to attach to the property for the one ten year renewable period that is allowed. There are different requirements as it relates to personal property which can be found in Florida Statute Section 55.204.

Once you attach a lien to the judgment debtor’s property and foreclose on said lien, there will be a judicial sale of the property. The proceeds from the sale will be distributed as stated in the Final Order which usually provides that costs are paid and then you will receive your judgment amount, subject to any superior lien being satisfied first. Any surplus will first go first to those lien holders that are junior to your lien and then to the purchaser of the property. However, the purchaser of the property will have to take it subject to any senior lien holders who have priority over your judgment lien. This is a summary of how to collect on a judgment in Florida. Please be advised that there are certain types of property that are exempt from collection and other requirements as it relates to collecting on a judgment and you should contact an attorney regarding the same.

By: Stephanie L. Cook