As a small business owner, you know how important it is to have a plan in place that covers the entirety of your working years. You should also plan for how you’ll transition out of your business and what will happen if you were to pass before enacting that plan.
In our article, Succession Planning for Small Business Owners, we provide a primer on some of the most important considerations. Here, we’ll walk you through one key part of your plan: creating a trust agreement and the process you’ll follow to transfer your business to that trust.
Important note: This article should not be construed as legal advice. It’s imperative that you speak with an attorney who can help you navigate your succession and prepare legal documents that suit your specific circumstances and goals.
What is a trust agreement?
A trust agreement is a legal document that helps you protect your business and assets and ensure that they’re distributed to others precisely how you wish.
What are the benefits of a trust agreement?
Trust agreements provide three key benefits:
- They direct trustees to set up a charitable foundation, provide for family or other named beneficiaries, or distribute your assets in any other way that you wish.
- They can protect your business and personal assets during your lifetime and after your death.
- They can help you reduce or avoid estate taxes.
Trusts must be funded in order to provide these benefits. To do this, you’ll need to work with an attorney to draft trust documents and transfer the ownership of your assets into the trust’s name.
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Is there anything else I need to know to transfer my business to a trust?
Before you begin signing deeds, titles, and checks over to a trust, there are a few key points that you should consider:
Steps must be taken to transfer personal property to a trust.
Transferring property to a trust typically involves signing over a title or deed, transferring cash to an account owned by the trust, or transferring stock certificates to the trust.
Most other forms of assets, including furniture, tools, computers, books, and artwork, do not have a title. To include these assets in your trust, you’ll need to prepare what is known as an “assignment.”
Using a legal document called Assignment of Property, your attorney can formally document a list of the personal property you intend to have transferred to your trust.
Assets held within a trust may be taxed at a higher rate than those that are not.
The trust is responsible for paying income, dividends, and capital gains taxes for the assets held within the trust. Tax rates are higher for assets held within a trust than personal tax rates. However, the higher tax rate can be avoided by distributing the income the assets generate to the beneficiaries. Income distributed from the trust is then taxed at the beneficiaries’ personal tax rate.
Irrevocable trusts can reduce your taxable estate by holding high-risk/high-return investments.
When investing in ventures with high-growth potential, it can be beneficial to transfer partial ownership to an irrevocable trust. The shares placed in the trust may not be worth very much, if anything, initially. However, if the investment is successful, you will have a high-value asset that will not be part of your taxable estate when you die.
This strategy also works with highly leveraged investments as only the value of the equity will count towards your gift and estate tax exemptions.
Pro tip: You can name your children as the beneficiary of your irrevocable trust agreement so that they receive the benefits of the trust upon your death. However, in some cases, you may be able to receive the income from the trust during your lifetime. Speak with an attorney to learn more about this arrangement.
Transferring closely held corporations could trigger buy-sell agreements.
Most closely held companies have buy-sell agreements to ensure that an owner’s interest in a business isn’t transferred to someone outside the company when they die or when a triggering event occurs. Often, the reason is that the owners have agreed that they don’t want an outside party to inherit or have the option of buying an interest in the business.
When you transfer your interest to a trust, you may trigger the buy-sell agreement, provided that it prohibits this kind of move. Without this restriction in place, you may be able to transfer the business to the trust. Your attorney can help you review your buy-sell agreement and proceed accordingly.
The trustee will manage trust assets.
Once assets are transferred to a trust, the trust becomes the owner of the assets, and the trustee is responsible for their management. While the trustee must act within the terms of the trust, most trustees have broad discretion, provided that the decisions they make are in the best interest of the trust’s beneficiaries.
Pro tip: Some states will allow you to serve as the trustee of your trust during your lifetime, but many won’t allow the grantor of the trust to act as trustee. You may be able to work around this restriction by designating your spouse as the grantor, who can then appoint you as the trustee. In this scenario, you would need to name an alternate trustee to manage your assets in the event of your death or incapacity.
Don’t Go It Alone
When funding a trust, there are a great many considerations to keep in mind. Some legal-consumer websites offer trust agreements that can help you work through some of these factors, but it’s best to work with a lawyer who has experience with trust agreements.
Would you like to connect with an attorney to transfer your business to a trust? Click the Connect button below to get started:
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