In parts one and two of this series, Wealth Management laid out a roadmap for preparing a closely held business for sale, tackling issues ranging from assembling a crack team to the importance of financial planning before the sale to the types of buyers you may encounter. This installment provides some useful detail about the benefits of charitable planning for your business.
First, it’s important to know the tools available to you. Federal tax law encourages lifetime gifting by providing several incentives that can be used by a business owner prior to the sale of the business.
Annual exclusion gifts
The tax law allows the business owner to gift $15,000 (in 2019, indexed for inflation) each year to anyone without eating into the $11.4 million gift/estate tax exemption. For a gift to qualify for the annual exclusion, it must be a gift of a present interest; that is, according to the Treasury regulations, the recipient must have an “unrestricted right to the immediate use, possession, or enjoyment of property.” That’s easily satisfied in the context of an outright gift of shares to a family member, but becomes more complicated in the context of gifts to an irrevocable trust.
Technically, a gift to an irrevocable trust doesn’t qualify as an annual exclusion gift because it’s considered to be a gift of a future interest. That’s where Mr. Crummey comes in. His lawyer came up with a concept that allows gifts to an irrevocable trust to qualify as an annual exclusion gift. He did this by giving the beneficiaries of the trust the right to withdraw amounts that were contributed to the trust for a specified period of time after the amounts were contributed in a particular calendar year. Fortunately, the court endorsed this strategy and the Internal Revenue Service acquiesced, and thus was born the “Crummey power.”
Gift/estate tax exemption
Any shares gifted to family members that don’t qualify for the annual exclusion will eat into the business owner’s gift/estate tax exemption. The amount of this exemption is $11.4 million (in 2019, indexed for inflation). This is a unified exemption. That means that the business owner can: (1) gift it all away during life, leaving no estate tax exemption, (2) give away a portion during life, leaving the remaining exemption available at death, or (3) give none away dur-ing life, leaving the entire exemption available at death. Any amounts in excess of the exemption are taxed at a flat 40 percent at the federal level (unless they qualify for the marital deduction or the charitable deduction). It should be noted that many states have their own estate taxes that are in addition to the federal tax (but are deductible against the federal taxable estate); one state, Connecticut, actually has a gift tax.