How to structure a family owned businessMany businesses in New Zealand are family owned and managed. Some are large and financially very stable but the majority are mom and dad owned businesses. The dynamics and stresses involved in the ownership of a family business are unique. Therefore the structure needs to be very carefully planned and customised for each individual family circumstance.
What should the ideal family business structure achieve?
- First and foremost the family must feel as safe and secure as possible.
- Secondly the structure must, as much as possible, remove the exposure of non-business assets (primarily the family home) from something going wrong in the business or a marriage or relationship breakdown.
- Thirdly, the structure must be such that income can be split to take advantage of differential tax rates between personal rates, company rates and family trust rates. In other words, legal tax minimisation working hard for you.
- Fourthly, the structure must be flexible to allow for a partial or full change of ownership. This change may be forced by a marriage or relationship breakdown or by a family member wanting either to be bought out or to buy in.
- Fifth, the structure must allow for succession planning for the next generation or total retirement and sale of the business.
- And last, the structure should protect the productive or income producing side of the business from business risk - essentially uninsurable risk.
That's a long list of outcomes to expect to achieve from the ideal family business structure. Well, take it from me, that's what the modern business environment forces upon any family owned and managed business.
If you take a close look at the ideal outcomes, you will find that being in business without a well considered structure is risking far too much. Business is about taking risk - but why risk more than you have to?
The typical ideal structure should incorporate at least one company and at least one family trust. Here are the basics to consider:
1. It is desirable to separate business assets from non-business (passive) assets. As an example a family trust owning the family home that also owns the building that is leased to the business is not ideal. If the tenant of the building (i.e. your business) fails, then what protection does the trust give to the family home if the rent stops coming in? None, yet this is a common scenario.
2. Two trusts are most desirable where there are a mixture of both business and family assets. The need to separate productive assets from passive assets is important. Essentially a productive asset is more risk prone than a passive asset so do not put it in the same basket.
3. A trust is an ideal entity to take ownership of a company's shares - especially if the company is new and hasn't traded - because there is no value and no gifting involved. As the company increases in value, so do the value of the shares and hence the value of the trust. Dividends can also be directed to the trust at the tax rate of 33% which will be less than the personal tax rate of 39%. Potentially a significant tax benefit.
The flexible nature of companies combined with family trusts as shareholders offer family owned businesses asset protection, relative accounting and operational simplicity and various tax options. For instance, a company may have a trust as owner of, say, 98% of shares and two family members owning 1% each. If the two family members work for the company and the company generates more than $120,000 profit, then the two family members could take $60,000 each as salary and additional profits can be paid as dividends to the trust. This keeps the family members out of the 39% tax regime.
Please note that this information covers only the basic concepts. There are many variations and every family business should have a tailor made structure to match their family circumstances, the nature of the business, the assets at stake, family and business debt, taxable income and most important of all, a five or ten year plan to guide the structure objectives.
This article has been supplied by Jamie Tulloch from Wood Rivers Hawes, Accountants and Business Advisors (www.woodrivers.co.nz)
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