How the SEC Lifting the Ban on General Solicitation for Certain Private Offerings Opens up Additional Source of Capital for Small Businesses
Small businesses in recent years have been dealing with very tight lending markets that have affected their ability to grow or in the case of startup businesses develop at all. Another alternative to bank financing for these small businesses is raising capital through a private investment offering. However, until recently this may have been a difficult process for small businesses because of the ban on being able to solicit and advertise a private investment offering which left the small business owner only able to look for capital from their family and friends. Congress recognized the issues small businesses were facing with regard to raising capital and in April of 2012 passed the Jumpstart Our Business Startups Act (the “JOBS Act”). The JOBS Act directed the SEC to amend its rules within 90 days of the act to remove the prohibition on general solicitation and general advertising in securities offerings conducted pursuant to rule 506. These rules were finalized in July 2013. The newly adopted rule adds a new and separate exemption, Rule 506(c), which is available to an issuer that wants to use general solicitation and advertising to offer securities that are ultimately sold to accredited investors. For individuals, accredited investors are defined as persons whose net worth exceeds $1,000,000 (not including any equity in the individual’s primary residence) or whose income exceeds $200,000 per year (or $300,000 for joint income with spouse) in each of the past two (2) years. The newly adopted rules do require that an issuer take “reasonable steps” to verify that a purchaser of its securities is an accredited investor. Reasonable steps would include reviewing financial statements and tax returns of the investor to confirm accredited investor status. If an issuer chooses to use the Rule 506(c) exemption no non-accredited investors could invest in the offering.
Rule 506(c) presents a new offering exemption but it is important to note that the current 506 offering exemption remains in place. Therefore, if an issuer does not need to generally solicit and advertise the issuer can sell to an unlimited number of accredited investors without the “reasonable steps” verification process and up to 35 non-accredited investors.
If you are a small business in need of capital or an entrepreneur looking for capital to start a new business please contact us to explore the possibilities of raising capital using this new private offering exemption or under the current 506 offering exemption. Given the newness of the JOBS Act and the new 506(c) offering exemption there will be continuing amendments made to the rules so it is very important to discuss the possibility of any offering with a qualified securities attorney.
1. I’ve heard of a living trust and heard that it avoids probate. What is probate and how does a living trust “avoid” it?
Probate is a court proceeding. In Florida, it can be time consuming and costly. Much of it is also public. Consider the case of Joe and Mary. They had run their own hardware store for many years. Joe owned half the stock in their family store and Mary owned the other half. They owned a home jointly. Mary had also inherited some money which she invested in rental property. Their savings was in a bank account, which they had decided to put in Joe’s name.
When Joe died, Mary learned that she didn’t yet own all the company. Joe’s stock had to be probated before it could be put in her name. Then she learned that she couldn’t get access to the savings. The court had to appoint her personal representative of Joe’s will before she could draw on any of those funds.
When the business creditors found out about Joe’s death, they waited until the will was filed for probate and read it. They saw that the will left everything to Mary, but they weren’t sure she was going to keep the store open, so they began calling her for answers. Joe had been prominent and, to Mary’s dismay, she learned that much of the probate proceeding was public record.
Over a year passed and Mary eventually settled the probate estate. She then heard of a living trust and heard that it avoids probate. She learned that during her lifetime, she would be in complete control of her living trust. She could buy and sell assets in the trust, even run the business, as easily as if she owned those assets herself. At her death, one of her children could succeed her as the trustee of the trust and its assets would pass then free from probate. Mary established a living trust, placed the company stock and her other major assets in the trust, and things ran smoothly for her after that.
2. If everything I own is in joint names, won’t that avoid probate, too?
Yes, but there are some things to add here. First, if you own an asset with your spouse, it will go through probate at your spouse’s later death. Second, consider what may happen if you should put a child’s name on that asset. Mary did so after Joe’s death, and added their son, Sam, as a joint owner of the savings account. Sam had started his own hardware business in a neighboring town, but he didn’t have quite his parents’ talents or experience. When the business started to fail, his creditors were able to reach the savings account he held with his mother and nearly wiped it clean. So while joint ownership is a shortcut to avoid probate, it can create some very special problems of its own. For these reasons, a living trust is a preferable way to avoid probate.
3. My bank told me to just use a “Pay on Death” account to name my heirs. Does that avoid probate?
Yes, it can. But it can raise questions, too. After her husband’s death, Mary decided to set up a POD account so that her grandchildren, Sam’s kids, “would also get something.” She set up another savings account and added her grandchildren, as a “Pay on Death” beneficiaries. At her death, she thought that the account would automatically pass to her grandchildren. She also thought that this was enough to protect the account from any claim or control by Sam’s wife, Christine. Mary had always mistrusted Christine and they had never gotten along.
When Mary passed away, the grandchildren were still very young. Christine made claim to the account on behalf of her young children and was able to get control of the funds at that time. Mary’s desires were thwarted.
This result could have been avoided if Mary had used a living trust instead of the “Pay on Death” shortcut to avoid probate. The living trust could have properly excluded Christine from control of the grandchildren’s funds at Mary’s death.
4. My life insurance agent told me not to worry about probate of my life insurance because insurance does not go through probate. How does this work?
That’s correct (provided it is not payable to your estate). Sometimes, though, you may not want your beneficiaries to receive such a large sum of cash right away. Many couples want their young children to be protected and set up trusts for them in their estate planning. The trusts postpone the children’s receipt of money until they are more financially mature and keep those funds safe for college expenses or emergencies. If a couple were to simply name their children as the beneficiaries then the children would get the proceeds right away with no strings attached. So further planning can be helpful in order to coordinate the beneficiary designations with the parents’ overall desires.
5. What about my home?
In Florida, there are very special considerations that apply to your home. First, it can be eligible for homestead tax exemptions. Second, it can be protected from your creditors. Third, Florida law restricts the ways that you can pass your home at your death. That law originally designed to protect widows and orphans, can lead to some unintended consequences, especially if you have remarried and have a minor child by your first marriage. Each one of these features needs to be taken into account when planning your estate.
6. How does a living trust avoid guardianship?
One of the most helpful features of a living trust is that it can serve as a way for your family to manage your assets if you should become disabled. Often, an adult child is named the successor trustee of a living trust. If you are disabled, that son or daughter, as successor trustee, can have access to the accounts in the trust and must use those accounts for your care. Bill paying and management of your assets is done through your trust and a costly guardianship proceeding can be avoided.
7. Won’t a durable power of attorney do the same thing?
A durable power of attorney is only a start. Because many financial institutions require their own form of power of attorney, it is often difficult to get a financial institution to honor a blanket durable power of attorney not pre-approved by them. This can cause delays when your power holder needs to get to your accounts to pay your bills. A living trust avoids this delay. It is an instrument which has been universally respected by such institutions for some time.
It should be noted here, too, that a fairly recent change to Florida law has required that many older Durable Powers of Attorney must be updated. If you have a Durable Power of Attorney, you should check its date. If you had it drawn up before 2012, it would be a good idea to call your attorney to determine whether it should be updated to reflect current law requirements.
6. What’s the takeaway?
Use of a living trust is much more effective way to put in place your desires for your heirs. A properly funded living trust avoids probate and avoids guardianship. In the long run, it can save your heirs time and money. That’s the good news in using a living trust as the foundation of your estate plan.
The article is co-authored with Estate Planning & Probate attorney Paige Hammond Wolpert.
What is Probate?
Probate is a court supervised process whereby the validity of a decedent’s Last Will and Testament is proven, a legal representative is appointed to the administer the estate (in Florida this person is referred to as a “Personal Representative”), and the estate is settled so that valid creditors are paid and beneficiaries receive distributions of the decedent’s property to which they are entitled. If the decedent dies without a Last Will, also referred to as dying intestate, a similar process is followed. However, the individuals who receive the decedent’s property (referred to as “heirs”) are determined by the Florida law.
Are There Different Types of Probate?
There are two types of probate administrations. The amount and nature of the assets owned by the decedent dictate which type is appropriate. Chapter 733 of the Florida Statutes provides the framework for the administration.
Formal Administration. If the decedent owned assets in his or her sole name in excess of $75,000 (not including the decedent’s homestead property), a formal administration is usually required. A formal administration involves filing an initial Petition for Administration with the probate court identifying the decedent, listing the decedent’s assets, and requesting that a personal representative be appointed to administer the estate. Notice of the proceedings must be given to the decedent’s beneficiaries and to the decedent’s creditors and an inventory of the estate must be filed with the probate court. A formal administration typically takes from 6 to 12 months to complete. However, formal administrations that involve more complex issues such as the probate of real estate, tax issues, or litigation, may continue for a much longer period of time. Under Florida law, a Personal Representative must be represented by legal counsel throughout the formal administration.
Summary Administration. For a decedent with assets in his or her sole name worth less than $75,000 (not including the decedent’s homestead), a less extensive administration, referred to a summary administration, may be appropriate. A summary administration may also be used if the decedent owned only homestead property at this time of his or her death. A Petition for Summary Administration, along with a proposed order specifying who is to receive estate assets and which creditors should be paid and in what amount, is submitted to the probate court. Once the order is entered, the summary administration is complete. Some courts also require that a notice to estate creditors be published in a newspaper within the summary administration. Summary administrations can typically be completed in a matter of months depending upon the probate court’s caseload.
What does NOT trigger the need for Probate?
Control and Disposition of the Decedent’s Remains. Unless the decedent’s Last Will and Testament provides to the contrary, a surviving spouse or next of kin (such as the decedent’s children) can legally control the disposition of the decedent’s remains without initiating a probate proceeding. If the surviving spouse and next of kin are in disagreement as to the disposal, Section 497.005(39), Florida Statutes, provides that the surviving spouse has the ultimate decisions making authority regarding the remains unless the surviving spouse has been arrested for committing an act of domestic violence against the decedent that resulted in or contributed to the death.
Disposition Without Administration. For smaller estates, no administration may be required at all. For example, if the decedent owned only certain exempt property and nonexempt personal property not exceeding the sum of the amount of funeral expenses and the decedent’s reasonable and necessary medical and hospital expenses of the last 60 days of the last illness, then a disposition without administration may be appropriate. Pursuant to Section 735.301, Florida Statutes, the decedent’s property may be transferred if an interested party sends an affidavit or letter to the court requesting the payment or transfer of the decedent’s property to persons entitled to that property. Once the court receives the informal request, the court may authorize the payment, transfer, or disposition of the decedent’s personal property in writing without the need for a formal administration.
Decedent Owned Automobile in Sole Name. If the decedent owned an automobile in his or her sole name, that automobile transfers automatically as an operation of law pursuant to Section 319.28, Florida Statutes, without a probate. If the decedent had a Last Will, the Will should be presented, along with a death certificate and an affidavit that the estate has sufficient assets to pay creditors or that it is not indebted, to the Department of Motor Vehicles to show who has the legal right to take title to the automobile. If the decedent died intestate, an affidavit stating that the estate is not indebted and that the surviving spouse (if any) and heirs of the estate have agreed who should take title to the automobile is submitted to the Department to transfer the title.
Jointly Owned Property. If the decedent owned a parcel of real estate as a joint tenant with rights of survivorship, the parcel will pass automatically to the surviving owner or owners when the decedent dies. No administration of the real property is required. There is also no need to do a new deed for the real property. A death certificate without the cause of death will need to be recorded in the public records in the county where the real property is located. Generally, no probate administration is required for other types of property owned jointly by the decedent and another party, including bank accounts, investment accounts, and automobiles. A determination must be made as to whether such accounts were owned by the parties with survivorship rights or whether a party was placed on the account simply for convenience, without survivorship rights. Under Florida law, there is a presumption that the decedent intended for any joint assets to pass to the surviving joint account holder unless the presumption is rebutted in the decedent’s Last Will and Testament.
Tax Refund. If the decedent is entitled to a tax refund from the Internal Revenue Service not in excess of $2,500, Section 735.302, Florida Statutes, states that the refund may be paid directly to the decedent’s surviving spouse, or if there is no spouse, to his or her surviving children over the age of 14.
Assets Payable to a Named Beneficiary. Assets that are payable to a named beneficiary such as life insurance policies, retirement accounts, and some bank and investment accounts, pass directly to the named beneficiary and need not be probated. These would include POD (payable on death) accounts, TOD (transfer on death) accounts, and ITF (in trust for) accounts.
Veterans’ Survivor Benefits. Most benefits payable to the survivors of a decedent are paid directly to those survivors and are not probated. Information regarding veterans’ benefits can be obtained from the United States Department of Veterans Affairs, Benefits Information and Assistance Office.
Social Security Benefits and Claims. Social security benefits are payable directly to the decedent’s spouse or dependent. Information on these benefits can be obtained from the Social Security Administration, which publishes a Social Security Handbook that details the programs available to survivors.
To further expand on my blog post Planning for Succession in your Business dated June 26, 2013, I have outlined the seven steps to a successful business succession plan.
I FAMILY RELATIONSHIP PLANNING
Understanding family issues plays a key role in the implementation of a business succession plan. The business owner must decide who, if any, of the family members will be involved in and potentially become leaders in the business and to what extent such family members should be rewarded differently than other family members because of their contribution of “sweat” equity to the business. It is important to recognize that children who sit on the sidelines will often develop distrust of their siblings working for the business and will desire to be “cashed out” of the business on an equal basis to obtain their fair share of their parents’ estates. If not properly planned for, that desire may place an unreasonable burden on the business. The business owner must also decide the extent of participation of his or her spouse, often of a second marriage, in the business, both financially and as part of management. With an understanding of these planning issues, the owner can proceed with creating the strategic business succession plan.
II BUSINESS STRUCTURE AND OWNERSHIP PLANNING
The foremost planning area involves the structure of the business itself. The business should be structured to facilitate succession planning and to minimize liquidity concerns and potential income and transfer taxes. While an owner may believe that an ongoing business is precluded from changing its structure and ownership due to tax consequences or business considerations, this is not always the case. A business will consider the following vehicles in formulating its preferred structure and ownership for purposes of its strategic business succession plan:
- Is the business structured as a limited liability company, limited partnership, S corporation or other favorable entity and how can the business be restructured, if necessary, without significant adverse tax consequences?
- Do the ownership interests consist of voting interests and nonvoting interests for purposes of control? Even an S corporation can have both types of interests. Is the business owner providing family members that are not active in the business with nonvoting interests, debt instruments, fixed assets subject to a long-term lease or other similar assets that do not provide such members with control of the business?
- Do the minority interest owners or the family members not active in the business have any rights of control over the other participating family members or have rights to “cash out” their ownership interests? These rights must be documented in a shareholders agreement, operating agreement or partnership agreement to which all owners and family members are subject. The agreement should also provide for the rights of family members to acquire ownership interests in the event of divorce, death or termination of employment and should fix a value for the interests.
III BUSINESS MANAGEMENT PLANNING
The business succession plan should contain a strategic plan for the future management of the company. The plan should identify the key employees, whether or not family members, who will contribute to the successful growth of the company as future leaders. The business should obtain their participation in the formulation of the business succession plan and should attempt to secure the continued employment of these key leaders through employment agreements and through incentive compensation vehicles, such as stock options, bonuses, deferred compensation and partial ownership of the business entity. The owner should take such steps as are necessary to ensure that management can continue operating the company without being required to surrender to the demands of family members unrelated to the business.
The owner may also decide not to give management unfettered control of the business. This may be especially true if management consists of certain children who would have the ability to pay themselves significant compensation to the exclusion of the remaining children. If family members were not ready for control, the business owner could designate a transition management group, through a voting trust, family trust or similar vehicle, for the period of time the owner feels is necessary for such members to mature into responsible business managers.
IV RETIREMENT PLANNING
The family should not implement the business succession plan unless it creates a mechanism to provide the owner with financial security for his or her retirement. This aspect of the plan should normally take on greater significance if the founder transfers control of the business during his or her lifetime. To achieve financial security, the family should consider nonqualified retirement arrangements, such as an executive deferred compensation retirement plan, or qualified arrangements, such as pension or profit sharing plans or an ESOP. The owner should also consider installment sales of ownership interests in the business, potentially with a self-canceling feature, and leases of real and personal property necessary to operation of the business, as additional sources of retirement income.
V LIQUIDITY PLANNING
Liquidity issues arise both for the business itself and for the family members who are involved in the business. Liquidity is necessary for the business to meet future contingencies and to create reserves for ongoing capital needs. It may be necessary for either the business or the business partners to meet obligations under a buy/sell agreement. It may also be necessary for the family of the owner at his or her death to meet estate tax obligations and after his or her death to provide additional security and liquidity for other needs. The strategic business succession plan will incorporate planning to meet each of these objectives. If the owner has entered into a buy-sell, operating or partnership agreement with the other business partners, they as a group should consider funding these obligations with key-man life insurance. However, the owner must ensure that any buy-sell provisions in such agreements, which are just as important as the liquidity itself, facilitate the transition of ownership so as to prevent the disruption of the business.
In deciding upon the level of additional liquidity necessary for the family, the owner should estimate the liquidity that will be available after his or her death. This liquidity may arise from the sale of assets other than the family business or from other income-producing assets. This liquidity may also arise from life insurance. The family should also consider implementing an irrevocable life insurance trust (“ILIT”) or a life insurance partnership (“LIP”) as the vehicle to hold the life insurance policies for the benefit of the family. With an ILIT or LIP, the family can shield the life insurance itself from estate taxes (and avoid paying potentially half of the insurance to Uncle Sam) to further increase the liquidity needs arising when they are needed most – the death of a loved one. The ILIT or LIP should be an integral consideration in formulating every business succession plan.
VI TAX PLANNING
Taxes are an important area of discussion for every business succession plan. The family business owner must consider the federal and state income and transfer taxes applicable to the business and the family in creating and implementing the plan. As discussed in the section below, there are several vehicles available to reduce or potentially eliminate estate taxes.
VII ESTATE PLANNING
As a final stage of its business succession planning, the family should revisit its estate plan. The estate plan should serve to compliment the objectives of the business succession plan. It should first contain the standard family and marital shares to take into account the remaining available exclusion from estate and gift tax at death. It may also include trusts or gifts utilizing the federal generation-skipping transfer tax. This latter planning is implemented to pass $5,000,000 of property to future generations without subjecting such property to transfer taxes in those generations.
The estate plan should carry through with the business objectives of transferring ownership during life or at death in a manner that causes minimal disruption in the operation of the business. If the transfers will take place during life, the business owner should determine the optimal manner of gifting business interests, whether outright, in trust or through a family business entity. The estate plan could also be used by the business owner to equalize, whether with business interests or other assets, the “fair” shares of the children of the owner.
The family business owner should also consider more advanced planning techniques, such as a family business entity. This is an excellent vehicle to create a structure for the selective control of assets while allowing all family members to realize income from such assets. The owner should also consider installment sales of business interests and other assets, including sales to trusts, and grantor retained annuity trusts.
Finally, if charitably inclined, a family business owner might consider the charitable remainder trust. This vehicle is a powerful tool that has estate and income tax benefits for the grantor of the trust. The business owner may also consider charitable lead trusts and a family private foundation to further enhance their philanthropic interests.
It is well-known that in Florida, a great way to own your home is in your individual name so that the home can qualify for homestead protection. Florida’s homestead laws are among the broadest in the country, and exempt homestead property from levy and execution by judgment creditors.
However, homestead laws extend only to your principal, permanent residence. What happens if you want to purchase a beach condo, an office building, or a piece of land to potentially build on in the future? How you title this property can have a significant effect on your business and your other assets.
Generally, holding each piece of real property in a separate limited liability company (“LLC”) owned by a revocable trust is an effective way of ownership with a number of business and estate planning advantages:
- Asset Protection. Owning property through an LLC maximizes the protection for your personal assets. Because there is an inherent risk of liability that goes along with property ownership, you, as a property owner, could potentially be subject to tort claims stemming from activities that occur on the property. If the property were held in your individual name or in the name of your revocable trust at the time a tort claim was made and the claim resulted in a judgment against you or your trust, your personal assets or the assets of your revocable trust could be attached to satisfy the judgment. However, if the property is held in an LLC and is the only asset of the LLC, only this property can be used to satisfy the judgment. The same principal applies if you hold a number of real properties, each with a significant value. Generally, each such property should be placed into a separate LLC for these purposes.
- Estate Planning. Having each piece of real property in a separate LLC has advantages from an estate planning standpoint in that it makes it simple to transfer ownership to family members. The ownership of real estate held by an LLC is represented proportionately by a member’s shares of an LLC. Rather than filing a new deed, the owners can transfer ownership of the property to their children by simply issuing them membership interests in the LLC. This makes gifting away interest in the real estate very simple and cost effective. Further, the LLC could also be structured with voting and nonvoting units. The owner can preserve control over the property during his or her lifetime and, at the same time, move some of the value of the property out of his or her estate, by gifting only the nonvoting units to family members. The owner could then prescribe how the property is to be controlled at his or her passing by devising the voting interests in the LLC to one or more beneficiaries of the owner’s estate.
- Avoidance of Probate. Owning real property through an LLC that is in turn owned by a revocable trust enables one to avoid the difficult probate process with respect to that property, which in turn eases the administration of your estate in the event of your passing.
A less effective, yet still a better way of owning real property than in your individual name, is placing the property into a revocable trust. This type of ownership does not have the asset protection and estate planning benefits described above, but it does remove the property from the probate process at your passing.
If property has already been purchased, it is still possible to take advantage of some of the protections discussed above by transferring the property into the appropriate holding structure. A major consideration as to whether to transfer the property into a revocable trust or an LLC is whether the real property is encumbered by a mortgage. If the property is unencumbered, it should be transferred into a newly formed LLC to take advantage of the LLC’s asset protection attributes. If there is a mortgage on the property, however, a transfer into an LLC would trigger documentary stamp taxes in the amount of $.70 on each $100 of the mortgage payable to the state of Florida. So, for example, on a $500,000 mortgage, the documentary stamp taxes payable to the state at the time of the transfer would be $3,500, which, for some, may not be worth the benefits of the transfer in the first place. If this property is transferred into a revocable trust, however, nominal documentary stamp taxes would be due on the transfer.
While the Florida LLC is an effective and frequently used vehicle for holding real property, there are other options that may be more appropriate for property owners. The specific circumstances and goals of the property owner must be evaluated before making this decision.
The closing documents have been signed and recorded, the funds have been disbursed, and the parties are thrilled the transaction has closed. Unfortunately, closing the transaction does not always signify the end of the file. Post-closing issues sometimes arise, and when they do, it is important to resolve them as quickly and efficiently as possible.
An Error in the Legal Description of the Deed
One such post-closing issue that may arise is a mistake in the recorded deed. There are several examples of what constitutes a mistake in the recorded deed; one of the most common being an error in the legal description of the property being conveyed. An erroneous legal description attached to a deed operates to cause the recorded deed to be defective, and impacts the chain of title. Some examples of an incorrect legal description in a recorded deed include, but are not limited to, a wrong call in the metes and bounds legal description of the property conveyed, an incorrect lot number in a platted legal description, or an incorrect plat book reference. However, the good news is that it can be corrected by taking the required corrective steps.
Improper Way to Correct an Error in the Legal Description
A defective deed may not just be re-recorded with the new, correct legal description attached to it, or with information added to the legal description after execution. In Connelly v. Smith, 97 So.2d 865 (Fla. 3d DCA 1957), the section, township and range were omitted from the legal description of the property being conveyed. The grantee in that transaction inserted the section, township and range after execution and delivery of the deed, and then re-recorded the deed. The court ruled the legal description in the original deed was insufficient, and the grantee’s voluntary insertion of information to the legal description after execution and delivery was of no effect.
Proper Way to Correct an Error in the Legal Description
When a mistake in the legal description is discovered, the correct process by which the mistake is remedied is to: (1) have a corrective deed re-executed by the original grantor and properly witnessed and notarized in accordance with Florida law; and (2) have the new corrective deed recorded. Having the original grantor re-execute a corrective deed and recording the same is the only way to effectively correct an error in the legal description of a defective deed.
Drafting the Corrective Deed
When recording a corrective deed, it is helpful to include a cross reference within the corrective deed that references the recording information of the defective deed. For example, a notation within the corrective deed may be included that states, “This corrective deed is given to correct an error in the legal description of that certain deed dated ______ and recorded ______ in Official Records Book ___, Page ___, Public Records of _____ County, Florida.” The notation is not necessarily required, but may aid in the understanding the chain of title in transactions that follow.
In the frenzy to close a transaction, occasionally a mistake such as an error in the legal description attached to the deed may occur. In the event that it does, the mistake can be remedied but only by having a corrective deed properly re-executed by the grantor and recorded. Since parties move on and memories and feelings fade or change, it is important to act as soon as possible to properly correct an error in a deed as soon as the error is discovered.