Five "Uneasy Questions" For This Family Business
Cliff Ennico
www.creators.com
#147;My husband, myself, and our two sons recently bought a small business. My mother and father used their house and other collateral to guarantee the bank loans we took out to purchase the business. Our two sons are operating the business. We are a corporation. My mother and father each have 26 shares (52 total), and our two sons have 24 each (48 total). Did we put this together the right way? How do we structure this business so that everyone#146;s happy?#148;
A situation like this leaves me with more questions than answers, I#146;m afraid.
Question Number One: do you and your husband have any stake whatsoever in this business? If you two took out a bank loan to finance the purchase of the business, and your Mom and Dad guaranteed the loan (since they appear to have the deep pockets in your family), you and your husband should have received shares in the business, since everything you own is probably collateral for the loan along with everything your parents own.
What probably happened here is that your corporation borrowed the money directly from the bank, and your parents guaranteed the corporation#146;s loan in exchange for their stock in the corporation, so you and your husband did not get involved at all. That leaves us with a situation in which 52% of the company stock is owned by your parents, and 48% by your two sons. Under most state corporation laws, if your parents and your children ever disagree on how the business should be run, your parents (with 52% of the stock) would probably win the argument. But if your sons ever get frustrated and quit the business, that would leave your parents #147;holding the bag#148; #150; they would have to find someone else to run the business and preserve their investment so they can pay off the bank loan. Not a good thing.
Question Number Two: who sits on your company#146;s board of directors? Since your Mom and Dad put up the bulk of the money to make this business happen, and since your two sons are the ones actually running the business, I would suggest a five (5) person board, structured as follows: your Mom, your Dad, your two sons, and either you or your husband as the fifth board member. That way if your parents and your sons ever disagree on the proper way to run the business, you and your husband can #147;run interference#148; and help solve the problem without creating too much acrimony within the family.
Question Number Three: when your parents guaranteed the bank loan to buy this business, did your parents treat the guaranty as a #147;loan#148; to the corporation, or as their contribution to the corporation#146;s capital? I#146;m hoping that at least some of the guaranty was #147;loaned#148; to the corporation #150; that way, the corporation will have to repay them on a schedule, with interest, before your sons can take anything out of the corporation as their compensation. If your parents treated their guaranty as an #147;investment#148; in the corporation#146;s stock, they will be forced to accept whatever the corporation#146;s Board of Directors decides to pay them in dividends #150; if they don#146;t control the Board, they won#146;t see a return on their investment for a long, long time (see Question Number Two).
Question Number Four: how much do your two sons take out in compensation each year? It sounds like your sons are the only two officers of the corporation. If I#146;m right about that, the corporation should enter into Employment Agreements with each of your two sons, spelling out their responsibilities to the company and saying exactly how much they can take out in salaries, bonuses, etc. each year before the shareholders can divvy up whatever#146;s left over.
Question Number Five: have your parents and your two sons signed a Buy-Sell Agreement? This is an agreement that prohibits any shareholder from selling out to a stranger (somebody not in the family) without giving the other family members the right to buy his or her shares first. Without such an agreement, either of your sons could sell their shares to a total stranger, who then would have the right to help run the business and make your parents#146; lives miserable. Again, not a good thing.
You need to talk to a lawyer #150; right now #150; and put these arrangements in place.
And while you#146;re at it, ask the lawyer about forming a Family Limited Liability Company (FLLC) for this business. I assume your parents are #147;getting on in years#148;. If they both die within a short time period, their estate will have to pay federal and state death taxes on the full fair market value of their shares in your family corporation. Your family may be forced to sell the business in order to raise the cash necessary to pay the death taxes (I hate to be cynical, but that may be why the previous owners sold out to you in the first place). A FLLC will enable your parents to transfer a portion of their shares to you or your children each year while they#146;re alive, so that when your parents ultimately do die, they will hold only a minority of the shares, which should reduce the death tax burden considerably.
Cliff Ennico (
cennico@legalcareer.com
) is a syndicated columnist, author and host of the PBS television series 'Money Hunt'. This column is no substitute for legal, tax or financial advice, which can be furnished only by a qualified professional licensed in your state. To find out more about Cliff Ennico and other Creators Syndicate writers and cartoonists, visit our Web page at
www.creators.com
. COPYRIGHT 2005 CLIFFORD R. ENNICO. DISTRIBUTED BY CREATORS SYNDICATE, INC. Permission granted for use on DrLaura.com
