Succession Planning For Equipment Dealers Passing the Torch Succession Planning For Equipment Dealers SAMUEL I KREAMER J.D.,C.P.A. ATTORNEY AT LAW 7155 LAKE DRIVE, SUITE 200 WEST DES MOINES, IA 50266 SIKJDCPA@ KREAMERLAW.COM

Succession Planning For Equipment Dealers Passing the Torch Succession Planning For Equipment Dealers OVERVIEW The Succession Planning Process External Succession Plan Sale of Your Business to an Unrelated Party Merger Internal Succession Plan Sale of Your Business to a Related Party Passing Your Business by Gift or Inheritance

The Succession Planning Process Preconditions: Igniting the Flame Obtain true “buy in” of current owners/managers Establish clear and prioritized goals for: Owner Business Successor Identify successor Get buy-in from critical third parties

The Succession Planning Process The Parties Involved Current owner/decision makers Your Advisory Team Attorney Successor Accountant Facilitator/Counselor Make puzzle pieces come in one by one

The Succession Planning Process Statutory Implications Iowa Code 322F.5 and 322F.5A (in general) provide that: Manufacturers my not refuse to give a dealership to a buyer/recipient who is otherwise qualified. If the heirs/estate of a dealer want to terminate the dealership they can trigger the buy-back provisions. Nebraska Revised Statute §87-705(3) and 87-708 (in general) provide that: A manufacturer/supplier may not “unreasonably” deny a transfer of a dealership.

The Succession Planning Process Initial steps Perform a Legal Audit Key documents with non-owners Internal operational documentation Define Roles Job descriptions Performance objectives Hold Meetings Attendees Formal structure

External Succession Plan- Sale of Your Dealership Overview Results in the passage of the “Value” of the business rather than the business itself Sale considerations Timing of the sale Lifetime Post Mortem Buyer is normally a competitor wishing to expand

External Succession Plan- Sale of Your Dealership Structuring the Transaction Purchase and Sale of Equity: Favored by Seller Buyer acquires all assets and liabilities (cash and liquid assets are frequently excluded) Requires more “due diligence” than asset sale Except for cash basis partnerships, all of proceeds should get capital gain/loss treatment Only one layer of taxation-Shareholder/owner level No Employee termination costs Purchase and Sale of Assets: Favored by Buyer Buyer acquires all assets and liabilities (cash and liquid assets are frequently excluded) Buyer acquires only the assets it wants Except for cash basis partnerships, all of proceeds should get capital gain/loss treatment If the Seller is a “C” Corporation, the selling entity has tax on sale of assets, and then Shareholders have an additional tax upon liquidation Can Trigger Employee termination costs

External Succession Plan- Sale of Your Dealership The Marriage Analogy Contract-Engagement Fully sets out the terms of the transaction Representations and Warranties Establish the legal liabilities of the Parties Limitations Knowledge Materiality Length of time No “standard” 10 year limitation on written contract Not all need have same limit Most problems become apparent in first 24 months Consider liquidated damages provision Closing-Marriage Dating Confidentiality Agreement Exclusive dating Letter of intent Living together Due diligence Checklist Engagement Contract Marriage Closing

External Succession Plan- Sale of Your Dealership Other Considerations Payment Terms Rarely all cash- Seller often takes a promissory note Often time contingent payment based on earnings In asset purchase transactions Normally cash, marketable securities, and accounts receivable are excluded Often there are closing adjustments for inventory Non-competition agreements Length of time Proscribed activities Adequacy of consideration Judicial reformation Amortization for buyer over 15 years regardless of period for payment Taxable as ordinary income to seller but no FICA Consulting agreements Adequacy of job description Deductible by buyer when paid or accrued Taxable as ordinary income to Seller but subject to Self employment tax (same rate as FICA) Termination provisions

External Succession Plan- Mergers Overview Two ownership groups combine to form one Works best with co-equals with similar goals, objectives but different capabilities and/or territories Generally a merger is a non-taxable event- it is treated as a different form of ownership of the same value Mergers are more of a business continuation plan than an exit strategy

External Succession Plan- Mergers Benefits and Drawbacks Benefits: Economies of scale Larger overall volume rebates Reduction of duplication of divisions Business continuity Access to territories Access to management and staff No employee termination costs Non-taxable event Drawbacks: NO CASH Additional known liabilities Additional contingent (unknown) liabilities Management disagreements Employee dissatisfaction (cultural differences) Disentanglement problems

External Succession Plan- Mergers Recommendations Create a system for amicable resolution of management disagreements “Merge” through the creation of a “series” limited liability company Establish “puts” and “calls” DOCUMENTATION IS CRITICAL

Internal Succession Plan Overview Sale to employee(s) and/or family members Lump sum Installment sale Can defer taxes Interest can be beneficial to seller Greater risk of non-payment Sale to ESOP Timing Lifetime sale Postmortem sale

Internal Succession Plan Overview Types Mandatory/permissive Cross-purchase/ Redemption Triggering Events Death/disability/retirement Business disagreement Date certain

Internal Succession Plan Buy/Sell Agreements Among “Family Members” Buy/sell price will be subject to scrutiny if: The buy-out is structured as a redemption in a family owned entity; and/or If purchaser is a family member Could result in a “dividend” to the “seller” rather than a “sale” of the stock Buy/sell price might/might not establish estate tax value of stock: Even if only triggered at death, the buyout agreement must be a bonna fide business arrangement The buy-out agreement must not be determined by the IRS to be a device for the transfer of value to family members for less than adequate consideration Must be a price which is same as “arm’s length transaction”.

Internal Succession Plan Basic Gift and Estate Rules Gift Tax Tax on the donor based on the value given to each donee. Annual exclusion from lifetime taxable gifts for 2018 is $15,000 per donor (husband and wife can be considered as TWO donors) “Lifetime” exclusion from taxable gifts for 2018 is $11,180,000 Unlimited non-taxable transfers to Spouse Donee takes Donor’s “basis” for computation of gains or losses. Estate Tax Tax on the estate based on the value of the estate. Exclusion for 2018 is $11,180,000 BUT a surviving spouse may claim any unused exclusion in the estate of the first to “pass” Unlimited marital deduction “Basis” for computing gain or loss “steps up” to date of death value.

Internal Succession Plan Gifting of Shares Benefits Reduce taxable estate Gifted shares are not part of the Estate Appreciation attributed to stock is removed from estate Donor may not have to pay gift taxes $15,000 Annual Exclusion for 2018 $11,180,000 lifetime exclusion-PER DONOR Because of minority and liquidity discounts, you can remove a greater share of the business than the mere prorata share of the stock. Drawbacks of Gifting Stock held in an estate gets “step up” in basis and may therefore ultimately result in a reduction in capital gain Donor may wish to retain voting control Considerations If gifts of stock are not prorata among beneficiaries, use other assets to “balance” the estate. A buy/sell agreement is recommended, even with “heirs”.

Passing the Torch Conclusions Succession planning is the passage of management and/or ownership of your dealership Succession plans come in two primary “flavors” External and Internal Succession planning is a process, not an event Many steps to this journey Experienced professional assistance is key

Passing the Torch Questions?