Tax


OK I don’t believe there was ever an actual estate planning episode on The Andy Griffith Show, but the show is one of my all time favorites.  With the recent loss of Andy Griffith I could not pass up the chance to offer a little tribute.  Though I would love to simply recount my favorite episodes or scenes from the show, I guess I need to offer some useful info as well.  So I will use some great episodes from the show to illustrate the importance of keeping your estate planning documents up to date.

Even if you have a great set of estate planning documents in place, circumstances in your life will change and tax laws will change.  Your estate plan only works if it is relevant to your circumstances and the applicable laws at the time of your death.  This means that keeping your estate plan current is an important part of your overall financial plan and life plan.   Be sure to review your estate plan every three or four years to ensure that it continues to address your goals and is current with changes in the law.  When in doubt call your attorney and ask if any update is needed.

What are some Mayberry examples of changes that may warrant an update of estate planning documents?

Marriage – See Episode 94 “Mountain Wedding”…Barney in the wedding dress and the first sighting of Ernest T. Bass.

Birth of First Child – See Episode 29 “Quiet Sam”…Andy plays midwife for a farmer.

Divorce – See Episode 120 “Divorce Mountain Style”….The Darlings are back and Bob Denver pops up on this one.

Death of a Spouse – See Episode 8 “Opie’s Charity”…a subplot here involves a husband who returns from the grave after his wife made up a story that he died.

Changes in Wealth – See Episode 36 “Mayberry Goes Bankrupt” … local citizen becomes rich overnight after finding a very old savings bond which was never cashed.

Relocating to Another State – See Episode 12 “Stranger in Town”….new out-of-state resident has adopted Mayberry as his hometown…this is a classic early episode.

Spendthrift Child or Grandchild —  See Episode 47 “Bailey’s Bad Boy”…spoiled rich kid gets arrested and learns a lesson…also Bill Bixby appearance.

Changes in Tax Laws  — See Episode 129 “Barney’s Physical”… the physical requirements for deputy are increased by state law putting Barney’s career in jeopardy…until Andy and Aunt Bea come to the rescue.

So what would Andy have to say about estate planning really?  I guess if Aunt Bea was doing one of those do–it–yourself Wills he would surely say “Aunt Bea…just call the man!”

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In my last newsletter I offered some tips on issues to consider when buying a business.   The ink well isn’t dry yet…so here are a few more:

3. Ask the Seller to stick around.

When you buy a business, you are not just buying the Seller’s assets, you are buying their relationships, their goodwill, and a part of their life.  Having the Seller stay involved in the business for some time as a consultant or employee (a few months or even a year after the purchase) can be invaluable in ensuring a smooth transition.  The Seller may be the only one who knows where to find the extra set of keys to the cash register, or the Seller may be the key to keeping several big customer relationships.  These are the kinds of issues that can’t be completely addressed in the purchase documents and require continued cooperation from the Seller.  Of course, the Seller will expect to be paid for this service, but this is usually negotiated as part of the purchase price, so the Seller’s continued involvement is an integral part of the deal.  Often the Seller welcomes the opportunity to stay involved; they may seek the continued interaction with employees and customers and they will certainly want the business, their pride and joy, to continue to succeed.

 

4.  Watch out for surprise liens or judgments.

If bank financing is involved in your purchase, you can rest assured that your attorney will be required to make sure that the assets are free and clear of liens.  However many transactions these days do not involve bank financing and in those cases it is important  to have your attorney do a basic lien and judgment search as part of your due diligence.  If your Seller has a bank equity line of credit, the bank may have a UCC lien filed against all the Seller’s assets and unless that lien is released at closing it will follow the assets even though you as Buyer may have nothing to do with that equity line.   There are also possibilities of tax liens or other judgments which the Seller may have “forgotten” about.  Don’t rely simply on the representations and warranties given by your Seller in the purchase documents; those provisions are not binding on a third party creditor and will not help you when you are trying to get a release from the creditor so that you can get your own equity line in the future.

 

5.  LLC vs Corporation.

As you are making plans on a business purchase, you’ll have to decide the type of entity you want to use.  I don’t have space here to give you a full comparison of the options, but generally you will be looking at using either an LLC or a corporation.  If real estate is an asset in the business then an LLC will almost always be the preferred choice; remember my general rule – never put real estate in a corporation – if you need a refresher see my Nov 09 Newsletter on my blog.  A corporation is still the most common form of entity for operating businesses and can occasionally offer some tax savings opportunities.  Your best resource on this decision will be your CPA, since they will be handling your tax filings.

 

Give these issues consideration before you get too far into negotiations and don’t be afraid to call your attorney; your attorney can advise on these and other things to consider before you ever start discussions with the Seller and will save you time and expense in the long run.

 

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Thomas Tusser is attributed with the astute observation — A fool and his money are soon parted.  This holds true not only when you are trying to impress your 6 year old at the midway games at the fair, but also when buying a business.  From my view as an attorney there are a number of basic legal issues that should be considered early in the process of buying a business and I’ll review two of these this month with more to follow:

1.   Buy assets and leave the liabilities alone.

One important threshold decision is how to structure the legal form of the transaction.  The two basic options are to acquire the assets of the business or to acquire the entity that owns the assets such as a corporation.  As a buyer it will most often be preferable to buy the assets and not the entity.  Buying the entity means buying the assets and liabilities of the business including unknown liabilities.  Imagine a few weeks after closing, you get a call from an attorney representing a customer that slipped and fell on the icy stairs a few months before you bought the business; if you bought the entity you bought that law suit along with it.  However if you only acquire the assets you can limit your exposure to the business liabilities and even if you agree to assume some liabilities you can establish a specific list so you understand your exposure.

In addition to liability protection, an asset purchase will give you, as buyer, a better income tax  result.  When you purchase assets you will establish a new tax basis for the assets which will allow you to depreciate the assets in the future for tax deduction purposes.  On the other hand, if you purchase an entity the assets may already have been depreciated by the entity and your purchase will not allow you a basis increase, so you will not have the same tax depreciation opportunity.

Fair warning — an asset purchase can be a little more complicated than an entity purchase, because the assets and business relationships must be transitioned over to the buyer.  For example, if there are numerous assets with ownership title (such as a fleet of cars); each title will need to be transferred to the buyer.  If the buyer desires to continue existing customer and supplier relationships, the buyer will need to enter into new contracts for this purpose.

2.     Don’t pay everything up front.

As a buyer, one big concern you have is how to recover against the seller if you have any claims arise after closing.  Usually the seller is asked to make certain representations about the business and assets and if those representations are later found to be wrong (or even worse…lies)  then you will have a claim against the seller for any loss incurred as a result.  Also, even where you have limited liability exposure through an asset purchase, you can still be entangled in litigation associated with the seller which requires you to incur the costs of a defense attorney.  If you have already paid the seller in full, you may have a hard time recovering especially if the seller is relaxing on some Caribbean island far from your concerns.  By requiring that some portion of the purchase price be held in escrow for a reasonable period (sometimes a year or more), you will have a ready source to collect your claims against the seller.  You can also reserve this leverage if the seller is willing to take a promissory note for part of the purchase price; however be sure you reserve the right to offset your claims against your note payments.

Next time we’ll look at a few other ways to avoid the “fool” rule.

 

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 Our government is spreading the love this season in the form of a long awaited new tax law which extends the current favorable income tax provisions.  The tax law also provides new economic stimulus in the form of payroll tax reductions for 2011 and an extension of unemployment benefits.  And just when you thought it couldn’t get any better?  How about a $5,000,000 estate tax exemption!

 Many of you know that the previous law was set to re-introduce the estate tax in 2011 with a $1,000,000 exemption.  Most tax professionals assumed that the law would  be amended either this year or early next year to continue the $3,500,000 exemption which was available in 2009.  But this $5,000,000 exemption caught us all off guard.  In fact there are numerous other provisions in the tax law that we have not yet had a chance to digest, but I wanted to pass along a few quick details that have not made it into the mainstream press coverage.

 The tax law does have provisions which would apply retroactively for 2010 for decedents who have already died, but these provisions are optional.  Estates for 2010 can elect to keep the old rules or take the new rules if they work out better.  Don’t worry, the law provides for extensions on estate tax related deadlines to allow everyone time to figure out the right course of action.

 The $5,000,000 exemption is now “portable” between husband and wife.   They each have an exemption and if they don’t use all of the exemption at death then the unused portion can be transferred to the surviving spouse.  This will simplify tax planning considerably and allow for shorter and less complicated documents going forward.

 The $5,000,000 exemption is not only for transfers at death but also for gift transfers.  This is an important change that will open up new planning opportunities for some high net worth clients.  The previous law only afforded a $1,000,000 exemption for gifts.  However before making decisions concerning large gifts, clients must also consider the impact of tax basis.  In some cases a large gift can be a bad tax decision; see my blog entry from April 20, 2010.

 This new tax law is in place for only 2 years, with the expectation that it will be extended or further modified in the interim.  It is not clear yet how the estate tax provisions in the law will fare, but it appears that we could be faced with this same estate tax showdown   (a return to a $1,000,000 exemption) in 2 years….right in the middle of another election.

 That is the early report.  I’m off to spend time with family and I hope you are as well.  This year we’ll gather around the fire and reminisce and teach the children about the good old days……when deficits were small and we even had a balanced budget in some years…and of course we never had such things as 0% credit cards…..back then we had to save money if we wanted to buy something….and I remember when……

 Merry Christmas and Happy New Year to you all! 

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