I have previously written about the need for succession planning for a small firm, such as an insurance agency, small shop or professional practice. Today, let’s discuss planning for transitions in larger operations. Regardless of the product or service provided, CEOs and key employees of both family companies and public ones retire, take other jobs and sometimes die in the saddle. Plans should be in place that encompass each of these possibilities.
A succession plan is part of a company’s overall strategic plan, which addresses a firm’s vision, values, markets and growth opportunities. Bringing about both is the responsibility of the CEO. If a business does not have the right people to facilitate strategic and succession planning, a consultant should be retained. (It is often said that a consultant is someone that tells you what you already know you should do, but for which you do not want to take responsibility.)
Good governance suggests a planning process with realistic timelines set forth in the bylaws, vesting responsibility in an appropriate committee, guided by proven procedures.Strategic plan in hand, it should be asked if current executives are up to its implementation. In considering the personnel pipeline, one must ask what will be the effects of retirement, death or job-poaching by competitors? Are additional people needed now or will they be in the future? Is additional training needed for employees with potential? Annual performance reviews are invaluable for this process. Talented mangers should be identified, encouraged and incentivized to remain and compete for the high positions. Others should be informed what skill development needs to be undertaken to allow them to advance as far as possible.
A harder question is what to do with employee-relatives of a founder who typically have expectations of taking over some day. Let’s say CEO Dad wants his son to take the reins in a few years and Junior isn’t up to it. Many years of practicing estate planning and business law have made it clear to me a company should be run to achieve the greatest financial return for its owners – period!
Only a small fraction of family companies survives through the second generation, let alone a third and there is a reason for this. (I take some pride in that our law firm is now on generation four.)
Family companies have certain advantages. Owners, as opposed to operators, are more likely to be good stewards of both assets and beneficial values, plus, they tend to think more long term. But talent can skip a generation. If there are two children in a business and the younger one is the ball of fire, it does nobody any good to let the eldest take over and run things into the ground. Using a consultant can help deal with this sticky problem by letting skills assessments and recommendations come from outside. The goal is to keep the family and, therefore the business, united and contributing for the good of all.
A second challenge in succession planning is taking over from a founder. Entrepreneurs who start firms are hard-charging and hate to give up control. Depending on the age and vigor of the founder, it is essential to have reasonable procedures and timelines for retirement (or a reduction in responsibilities), rather than to leave things vague to the frustration of younger executives who may jump ship.
Every business has a natural growth and decline curve. Successful companies – family ones or not – must have the capacity to reinvent themselves. When growth hits the wall, one must diversify into new areas and sometimes it takes fresh blood to make this transition. A well thought out succession plan increases the likelihood that a business will adapt and make it beyond generation one.Read More
After a 10-year U.S. economic expansion, taxpayers hold trillions of dollars in unrealized capital gains.
To encourage investment in economically depressed areas, the U.S. Tax Cut and Jobs Act of 2017 created a program that allows investors to essentially “roll” what would otherwise be taxable capital gains into investments into Opportunity Zones (OZ).
These zones were nominated by state governors in low-income areas determined from community census tracts and there are now about 8,700 around the country.
The Mahoning Valley contains 15, about which The Business Journal has already written. New U.S Treasury Department regulations have clarified a number of issues concerning Opportunity Zones.
An investment in an OZ must be made through a Qualified Opportunity Fund (QOF).
A QOF is an investment vehicle (partnership, corporation or LLC), 90% of whose assets hold OZ property, which can be:
• An equity interest in an OZ business.
• A real estate investment.
• An interest in an OZ business property, which is:
– Tangible property used in the business.
– Acquired after Dec. 13, 2017.
– Substantially all of which is used in the OZ.
After passage of the Tax Cut and Jobs Act, a large number of “blind pool” funds were raised geared toward making real estate investments, although single purpose funds seem to be becoming more popular.
With real estate, investment is seen both in new development and in rehabilitation projects.
With a rehab project, QOF funds must be spent within 30 months on a “substantial improvement.”
A commitment to a project is not enough. There must be a real plan and actual expenditures.
Almost any business can be conducted in the OZ, except “sinful” ones.
Thus, a massage parlor or liquor store may not work, while a restaurant serving liquor certainly would.
Investors have 180 days to roll their capital gains into a Qualified Opportunity Fund.
Unlike the requirements for tax deferral of real estate gains under Code Section 1031, there is no requirement that an investor work through a qualified intermediary or look for a “like-kind” investment.
Gain on the sale of any capital asset is eligible to roll into a Qualified Opportunity Fund.
Here are the tax incentives:
• The temporary deferral of capital gains invested into a QOF until the earlier of a sale of the QOF investment, or Dec. 31, 2026.
• A step-up in tax basis as follows:
– If the taxpayer holds less than five years, no more than 90% of capital gains is included in income.
– If the taxpayer holds more than seven years, no more than 85% included in income.
– If taxpayer holds more than 10 years, all gains accrued on the Qualified Opportunity Fund investment are tax-free.
Other points to consider:
• Code Section 1231 gains are netted.
• Gains are determined as of Dec. 31 and the 180-day period begins to run then.
• Single-member LLCs are not eligible.
• Only capital gains qualify (there is no ordinary income deferral).
• “Pass-through” entities such as Sub-S corporations, partnership or LLCs can be used.
• Property can be contributed to a QOF, instead of cash.
• Transfers on death of a QOF do not cause tax recognition.
• Transfers to a revocable trust do not cause recognition.
• One cannot buy raw land and qualify, unless there is a bona fide plan to develop it.
• Leases can qualify, but there are special rules for related party transactions.
• A Qualified Opportunity Fund business must earn at least 50% of its gross income from activities within the zone.
In sum, some would say that the economic expansion is getting long in the tooth.
A taxpayer, for instance, with substantial long-term stock market gains may consider selling and locking in gains and then investing within 180 days in a Qualified Opportunity Fund or Funds.
This will postpone tax recognition until the fund is sold or 2026 (the earlier) and may afford a 10% or 15% reduction in the ultimate tax rate.Read More
Baby boomers are leaving the workforce in droves. But a business owner who wants to retire cannot simply turn off the lights and head to the beach. Selling a company and getting fair value generally takes several years and careful planning.
Step One: Polish the apple.
Do not conduct a “Get me the heck out of here” sale. A buyer will not pay full value if it appears a seller is desperate. The seller should have a story that conveys a sensible reason for selling. Additionally:
- A business history should be prepared; financials and corporate books should be in perfect order.
- Three years of tax returns should be gathered.
- Documentation for IP, licenses and employment agreements should be made available.
- Computer systems should be modern and upgraded.
- Relatives or children not being productively employed should be let go.
- Work out lease extension options well in advance of the year in which the business is to be sold.
- Environmental issues are deal killers. Fix them!
- Dispose of dead inventory.
- Buyers want to see growth, so sellers should consider increasing advertising and promotion to boost revenues.
Step Two: Determine a reasonable price.
A crazy price hurts a seller’s credibility regarding his other representations about the business. Setting too high a price may slow the deal and cause a seller to miss the window of opportunity for selling in our cyclical economy. The price a buyer pays reflects a determination of discounted future earnings. To value a business where the owner is actively involved, one must determine what a potential buyer would have to pay someone to do the job of the owner. Thus, if an owner takes $100,000 out of a company annually and it would cost $75,000 to hire someone to do the owner’s job, then a buyer is purchasing a $25,000 stream of income (not $100,000) and his offer will flow from that number. With a realistic number in hand, to come up with an asking price:
- Apply any rule-of-thumb metrics used in the seller’s industry, such as a multiple of sales or cash flow.
- Look for comparable sales of similar businesses.
- Run a capitalization of income calculation, applying the appropriate cap rate for your industry.
- A third-party valuation may provide comfort and be worth the cost.
A seller should know how much seller-financing he is willing to provide. However, an all-cash deal at a lower price is usually better than being the bank. A buyer wants to ensure a smooth transition with customers, so a seller should steel himself to work in the business for 12 to 18 months. The shorter the time, the better.
Step Three: Determine logical potential buyers.
Determine potential buyers, such as competitors, key employees and private equity. With believable narrative in hand, reach out.
Step Four: Consider using a broker.
Business brokers not only have a book of possible buyers, but sometimes have banking connections. Thus, their 5% to 10% commission can be worth it. Do not be seduced by a broker claiming he can get you an unrealistic price. Interview several brokers before you hire one.
Step Five: Size up the buyer.
Determine the likelihood of the buyer securing financing before the deal is signed.
Finally, let an experienced business lawyer handle the purchase and sale agreement, not the broker.Read More
My namesake and great grandfather, Nils P. Johnson, was a Swedish immigrant who settled on “Swede hill” at the top of the Market Street bridge in 1905. He was a wholesale grocer and must have been an affable man. Foreign accent and all, he eventually was elected to the Ohio Senate.
Times were simpler then both for immigrants and business people. When great granddad came to town, immigration laws were lax and there was neither an inheritance tax nor an income tax – the latter arriving with the 16th amendment in 1913 and the former coming a few years later in 1916.
These days immigration issues are much in the news in all their complexity. For instance, with the unemployment rate at nearly historic lows, businesses in need of highly-skilled employees are pushing for the expansion of the H1B visa program that gives preference to such immigrants.
For that reason, attorneys must have at least some knowledge about immigration issues if they represent business clients. Furthermore, if they do estate planning, an attorney must also understand the tax implications of being foreign born.
Let’s consider how gift and inheritance taxes affect the foreign born.
First, a review of the rules for U.S. citizens:
- Each person has a tax credit that permits passing $11.2 million during life or at death to a non-spouse tax-free.
- In addition, a person can gift $15,000 annually (“annual exclusion” exemption) to an unlimited number of people. Spouses together can pass $30,000.
- The new Trump tax law allows the estate of a surviving spouse to employ the unused portion of the tax credit of the first spouse to die. This means a husband and wife, both citizens, can transfer $22.4 million tax-free to the next generation.
- A spouse can inherit an unlimited amount of money from the other spouse, using the so-called “marital deduction.”
- A large gift across generations triggers a second tax, the “Generation Skipping Transfer Tax,” on amounts above $11.2 million.
- In 2026, the Trump law sunsets and the amount of a tax-free estate returns to $3 million.
The rules are significantly different for U.S. residents holding Green Cards, domiciled in the United States at the time of death:
- One is subject to a gift/estate tax on the value of transferred assets worldwide.
- Each spouse enjoys the individual $11.2 million exemption.
- One can use the $15,000 annual exclusion.
- A surviving spouse is not entitled to use the unused portion of the tax credit of the first spouse to die.
- A surviving Green Card-holding spouse, himself/herself does not get the marital deduction.
- If a special trust (“Qualified Domestic Trust”) is used, the tax that would otherwise be triggered by the lack of a marital deduction can be postponed.
- One spouse can gift the other $149,000, without using up any of the $11.2 million exemption.
A nonresident alien (someone in the U.S. lacking a Green Card) is taxed only on property held in the United States. However, his estate tax exemption drops from $11.2 million to $60,000.
It is important that an estate planning attorney always ask clients about their nationalities, even if they don’t have an apparent foreign accent. (Yesterday I met with a woman who spoke American English perfectly, but who turned out to be a German citizen holding a Green Card.)
The time of benign taxation from great granddad’s days are long gone. The estate plan of a Green Card holder, or nonresident alien, will differ significantly from that of a U.S. citizen.Read More
It can be feverishly tempting to set up a new business without first consulting an attorney.
With 24/7 online business registration from the Ohio Secretary of State, a new legal entity can be formed in a matter of minutes, day or night. Why then, does our law office receive so many frantic phone calls from individuals who did it themselves?
Self-help like this often results in picking the wrong legal entity for the new business – partnership, S-corporation, C-corp., LLC, etc., as well as ending up without an appropriate operating agreement that states how the entity will be managed. (A previous article discussed the need to have effective buy-sell agreements in place as part of the operating agreement to deal with the possibility of a partner dying, going bankrupt or getting divorced. Go to BusinessJournalDaily.com/legal-strategies.)
Another pivotal shortcoming of going it alone is complicating access to the court system. In our litigious society, businesses may become embroiled in civil litigation at some point during their operation. But under Ohio law, a corporation or other similar entity representing itself in court subjects itself to unauthorized practice of law claims.
To the self-starter, this may be maddening. However, this rule is rooted in the longstanding principle that corporations and limited liability companies are separate legal persons than their owners or shareholders.
Therefore, when an owner or officer of an entity represents that entity in court, they are attempting to legally represent another “person.”
In 2005, the Ohio Supreme Court created a limited exception to the above rule in Cleveland Bar Assn. V. Pearlman. The defendant, Mr. Pearlman, was a 99% owner of two businesses and represented both of them in 13 different cases seeking money damages from tenants or former tenants in the Cleveland Heights Municipal Court.
The Cleveland Bar Association sued Mr. Pearlman for the unauthorized practice of law. Surprisingly, the Supreme Court held that Mr. Pearlman was not engaging in the unauthorized practice of law.
Specifically, the court cited Ohio Revised Code Section 1925.17, which states:
“Any bona fide officer or salaried employee of a corporation may represent or defend the company’s claim in a small claims division arising from a claim based on a contract to which the corporation is an original party or any other claim to which the corporation is an original claimant, provided such corporation does not, in the absence of representation by an attorney at law, engage in cross-examination, argument, or other acts of advocacy.”
This narrow holding allows Ohio businesses to represent themselves only in small claims court.
With a limited jurisdictional limit (i.e. $3,000), small claims courts may not be able to award litigants the full extent of their damages.
However, certain business entities like those operating rental properties may still avail themselves of the small claims court system for evictions and collections below the $3,000 limit, subject of course to the restriction on cross-examination.
If the litigant desires more than $3,000 as damages or anticipates the need for cross-examination, they will require legal representation from a licensed attorney.
In our complex society filled with rules, regulations and legal pitfalls at all levels, forming a relationship with an attorney on the ground floor of the new business will free the business owner to do the things she is best suited for – running and growing a new company.Read More
The fine folks at The Vindicator recently ran their first ever Reader’s Choice Awards, and we’re very pleased to announce that the readers have voted our law firm their favorite.
Thank you all for your support! We could not have done it without you.
What is arbitration?
Arbitration is a dispute resolution process.
When will a dispute be resolved by arbitration?
A dispute will be resolved by arbitration if the disagreeing parties have previously agreed in writing to resolve future disputes via arbitration.
How do I know if I agreed to arbitration?
You will know if you agreed to arbitration by reading carefully the contract or agreement that governs whatever item/service you purchased or signed up for. Nearly all online services will include an arbitration clause in their standard user licensing agreements. In fact, if you’ve ever clicked “I Agree” before installing software or upon creating a username/password for an online service, you have likely agreed to arbitrate a future dispute.
What if I didn’t know I agreed to arbitrate a future dispute?
If you signed a contract containing an arbitration provision, you will probably be bound to arbitrate future disputes even if you weren’t aware that the contract contained an arbitration provision.
What is the advantage of arbitration?
Arbitration can often be finalized more quickly than litigation in the state or federal court systems. Arbitration is also entirely private: there is no publicly searchable database of pending arbitration cases or their results. Arbitration can also be less formal than litigation. Of course, this depends on the complexity and size of the controversy. Smaller matters such as a consumer purchase can be resolved in a matter of months and via email exchanges and conference calls. More complex matters, such as a large construction project, will likely take over a year to resolve, and may require several in-person appearances in a faraway location and extensive personal testimony.
What are the disadvantages of arbitration?
Arbitration can be expensive. The fees for arbitration are tied to the amount of the controversy: the more expensive the claim, the more expensive the filing fees. More information about arbitration fees can be found at the American Arbitration Association’s website. In addition to filing and administrative fees, arbitrators themselves will have hourly or fixed-rate fee schedules.
Besides the costs, arbitration results can generally not be appealed. In this way, the stakes of arbitration are much higher than those in formal litigation which affords several offers opportunities for appeal.
Who will arbitrate my claim?
It depends on what your arbitration clause says. Some arbitration provisions require the parties to mutually agree on a single arbitrator. Other agreements might require three arbitrators: one party selects an arbitrator, the other party selects another, and the two arbitrators themselves appoint a third. And other agreements might allow for one party to unilaterally select the arbitrator. The same arbitration provision might also require the arbitrator(s) to have certain qualifications (i.e. the arbitrator must have ten or more years of experience in the oil and gas industry).
If my opponent can pick the arbitrator, can they appoint someone favorable to them?
Yes. If your arbitration agreement allows your opponent to unilaterally select the arbitrator, you are at a disadvantage. To take an extreme example, imagine your opponent selecting their mother to arbitrate the dispute. This is admittedly unlikely to happen. However, it is commonplace for corporations to routinely employ specific arbitrators.
Fortunately, Ohio has laws that authorize a local court to review the arbitrator’s determination for things such as corruption, fraud, or undue influence. In this way a party can ensure that they obtained a reasonable result.
Can I appeal an arbitration?
In short, no. The result you obtain at arbitration is quite likely binding and final on all the involved parties. There is no arbitration appeals court.
However, Ohio law allows a local court to modify or vacate an arbitration award. But the court’s review authority is quite limited, and should not be understood as a second chance for a brand-new trial on the merits. In fact, Ohio caselaw strongly favors the arbitrator’s conclusions and routinely cautions Ohio courts from substituting their judgment for the arbitrator’s.
What if I don’t want to arbitrate my dispute?
If you don’t want to arbitrate your dispute, you might still file a lawsuit in your local court system. However, your opponent may simply ask the court to arbitrate the issue per the arbitration clause you agreed to in the contract. If your opponent never asks the court to do that, however, your issue could be resolved entirely within the court system.Read More
A local woman called this afternoon indicating she had received a voicemail from our office requesting credit card information. I verified that nobody in our office had ever heard of this particular person, and that nobody in our office made such a call. It would appear, then, that someone is spoofing our office’s phone number in an attempt to defraud people of money.
Caller ID is quite easy to manipulate. Many smartphone apps permit a caller to select the number they appear to be calling from. The Federal Communications Commission offers this information about Caller ID “spoofing.”
Here, the caller poses as a law firm attempting to collect on a debt. Some firms (particularly collection law firms) make similar, legitimate phone calls, making it difficult for the victim to discern the authenticity of the alleged debt. This link will explain your rights as a debtor in such a situation, and may provide you with some useful information to determine if the call you are receiving is a legitimate one.
If you receive a call appearing to originate from our office, please take note of the time of the call, and contact me at the information above.
Be careful out there