The most common way to transition a family business is by selling your small business to a family member. It seems like an easy option, but it is essential to approach it with care. Remember, there are many challenges when selling your small business to a family member.
One of the questions here is whether selling a small business to a family member is a pitfall-free experience. The short answer is, of course, not.
Selling a small business carries emotional, relationship and financial risks. Moreover, it may also lead to conflicts, misunderstandings, and legal complications. To ensure a smooth transaction, you must avoid pitfalls and maintain a good relationship with your loved ones with open and direct communication.
This article outlines some of the critical factors and things to consider when selling a small business to a family member.
So, let’s explore together…
When Should You Consider Selling Your Small Business To A Family Member?
You must treat a family member like a regular buyer but with some softness and warmth in your heart. Estimating the correct business valuation is necessary to keep it professional. Yet, it is important to consider the potential risks and challenges while selling a business to a family member.
Below are some essential points that clarify when to consider selling your small business to a family member.
1. Keeping Business Within The Family
Selling your business to a family member is the best decision to keep the company within the family. In fact, that is something important to you and your family, and that’s why you consider this option in the first place. This strategy ensures the business retains its mission, vision, value, and culture.
Another essential factor that one must consider is trust. If you trust your family member to grow and shine, then you will sell the business you built for them. However, you must ensure they share your vision, values, discipline and have the necessary business management skills.
3. Retirement Plan
Sometimes no successors are present outside the family (other than your competitors), and you want to retire. If you don’t want your competitors to reap the value of the business you built, then you should also consider selling your business to a family member.
4. Estate Taxes
Selling to a family member is an excellent option to reduce estate taxes. It allows you to transfer the business at a discounted price. For many owners and founders, this can be a huge advantage.
5. Financial Benefits
Selling a small business to a family member provides an opportunity to negotiate favorable terms for you as well as for the buyer. For instance, it includes lower purchase prices and reasonable payment terms.
For example, in this case, you should be able to sell the business on your own, saving broker fees.
When Shouldn’t You Consider Selling Your Small Business To A Family Member?
Working with the same people can result in a need for more new ideas. For instance, keeping the business within a family can restrict its potential and growth. And, what happens if the business fails by restricting the opportunity to only your family or relatives?
Don’t get me wrong, selling a small business to a family member has its benefits. But there are some situations where there may be better options.
Below are some situations where you shouldn’t consider selling your small business to a family member.
1. Lack Of Experience And Skills
The successor family member must have the necessary skills, experience, and qualifications to run a business. If they don’t have it, they should at least have the enthusiasm to gain those skills and education rapidly.
2. Future Uncertainty
Sometimes business owners need more certainty about their future. This thing puts their long-term goals in doubt. Thus, selling a business to a family member in this condition is not advisable.
3. Legal Obligations
Selling a small business to a family member requires careful consideration of legal obligations. It includes taxes, warranties, and liabilities. It’s crucial to consult with an accountant and legal experts before making any decision.
4. Family Dynamics
Family relationships are not easy but complex. So, selling a business to a family member can affect others. Moreover, it can also create conflicts leading to long-term negative consequences.
5. Financial Constraints OR Disadvantages
Family members sometimes need help to offer the exact purchase price as third-party buyers. Hence, this situation can result in financial constrain and disadvantages. If you want to maximize the return on investment, there are better options than selling a business to a family member.
Who Can Be A Family Successor?
Many small business owners face the question of how to find a suitable family successor for their business. To plan a smooth transition, one must apply some tips and strategies. Before determining who can be a successor, you must assess the goals and have a clear vision.
The succession process is the major keystone to survival in a family business. A family successor shares the same vision and leads the legacy and responsibilities of a family member or leader.
For example, if you have a few children, would you choose as the successor? Is that the eldest, youngest or someone in the middle? Is it a boy or a girl?
Below are some common examples of family successors.
- The oldest child often becomes the successor and will take over business, property, and leadership roles.
- The highest educated, well-skilled and well-mannered child can become the successor, while the oldest just gets an asset.
- If the family member or leader passes away so, in some cases, the spouse can also become a successor.
- Sometimes there are no immediate children or spouses available. Thus, the close relatives or siblings will be the successor.
- Trusted business partners or associates can also manage the family business. It is possible if there are no eligible family members.
- Adopted children or non-blood relatives will handle the business in certain situations.
Ultimately, deciding who can be the family successor depends on the values, circumstances, their skills and family traditions.
18 Things To Remember When Selling Your Small Business To A Family Member
Business selling to a family member comes with unique challenges. The following are 18 things to remember when selling your small business to a family member.
1. Establishing Clear Communication And Expectations
Clearly outline your expectations and establish clear communication from the start. This can be even 10 years before you actually pass the keys to the successor. It is necessary to discuss all the goals and concerns with your family member before selling a small business.
Try to be transparent in communication and negotiations with your family members. While selling a small business, discussing concerns and potential challenges openly with the family member is better.
This way, the sale will go smoothly, and there will be no misunderstandings. Each person involved has to do their part. Therefore, it includes communicating their motives for the future of the business.
2. Seeking Professional Advice
Selling a business to a family member is a complex and challenging task, especially if you have considerable wealth due to your real estate portfolio. Get professional advice and consult with lawyers, business brokers, and accountants. They will all guide you throughout the process and help you handle it correctly.
The best thing is that they will also handle all the financial and legal aspects. You can also take advice from other business owners with experience selling a business to a family member.
3. Determining The Value Of The Business
There is some unique consideration when selling a business to a family member. Determining the company’s value is not that much similar to valuing a regular business of close relationship involvement. It definitely differs from valuing a property, but some fundamentals can remain the same.
First, you must assess the financials of the business. Review the statements like balance sheets, income statements, cash flow, etc. Similarly, you must check the market demand, competition, and industry growth prospects.
You also need to consider the willingness of family members to pay the total market value. Thus, it will help you determine a reasonable price as you will know about their financial capabilities.
According to the Australian Taxation Laws, you’re liable for capital gains if you sell a business to a family member. To clarify, it will be on the market value of your business if you sell above or below the market value.
Remember, as we have touched on earlier, businesses such as restaurants businesses sell cheaply in Australia.
4. Setting A Realistic Price
Setting a realistic price is essential to ensure that the family member who is buying can afford the business. In this way, you can avoid any strain on family relationships. Try to consider the monetary as well as the non-monetary factors.
Sometimes non-financial factors can influence the price, like the desire to maintain family harmony or sentimental value. Always structure the payment terms properly and agree upon a feasible payment plan for the family member.
5. Considering Financing Options
You can consider many financing options if you sell a business to a family member. You can act as a lender and provides financing to your family member (i.e. lender finance). As an owner, you can agree on interest rates and repayment terms.
Also, explore external financing options such as bank loans or investor support. Another option is instalment payments, where you will not get a lump sum. Instead, the family member will make regular payments over a predetermined period.
An equity swap is another option where the family member will not pay you cash. They will offer you equity in the business as part of the payment. It means that you will hold shares and ownership in the company. Hence, you will get a portion of the profits in the future.
6. Drafting A Formal Agreement
A formal agreement will help outline all aspects of the sale, including price, transition plan, and terms.
In a written agreement, there must be some important details that should be present. They are the purchase price, payment terms, and other specific requirements or restrictions. Set clear terms and conditions and clearly define them.
7. Defining Roles And Responsibilities
It defines the roles and responsibilities of each party involved when selling a small business to a family member. Above all, it includes the overall structure of the company. After that, it also has expectations and decision-making authority.
The owner’s role is to promote their collective values, mission, vision for the enterprise, and goals as owners. Outlining the roles and responsibilities will help in avoiding conflicts in the future.
8. Considering Tax Implications
It is a crucial thing to consider the tax implications. There are certain tax advantages or disadvantages that need attention.
Some taxes include estate tax, capital gains, and gift tax. Transferring the property to an individual for free or less than the fair market value comes under estate and gift tax.
Consulting with a tax consultant can reduce tax complexities in the future. Most importantly, it also helps in reducing the tax burden.
9. Preparing For Emotional Dynamics
Small business selling to a family member is a personal one. It brings emotional dynamics and family issues. However, it is the responsibility of the business owner to address these dynamics from the beginning.
Family members must have open and honest communication. Always communicate long-term goals and expectations to minimize misunderstandings.
10. Maintaining Professionalism Throughout The Process Of Selling
Although it is a family transaction, it is excellent to maintain professionalism throughout the selling process. Establishing a formal contract or agreement, conducting due diligence, and seeking legal advice will help ensure a professional transition.
Put everything in writing and treat the transaction professionally like any other business sale. Therefore, it will help to maintain clarity and minimize potential conflicts.
11. Reviewing Insurance Coverage
It is necessary to review the existing insurance coverage of the business. The insurance protects both the buyer and the seller. Thus, it may include commercial, property, liability, and critical person insurance.
Reviewing, updating or obtaining new insurance
policies will mitigate all sorts of risks. Additionally, it will also provide financial security for both parties involved.
12. Seeking Approval From Other Family Members
Getting approval and consensus from other family members is essential if you sell a business. Try to hold a family meeting to discuss all the business details and your future plans. Let’s initiate open communication.
Similarly, articulating and presenting your reasoning for selling a business to a particular family member is the right decision. In short, patience and empathy are the key factors in seeking approval from other family members. It also ensures a successful sale.
Regardless, be mindful – you might not be able to please everyone, and that’s how simply life works!
13. Planning For The Future Of The Business
Consider the business’s future through careful planning to ensure a smooth transition. Make sure that the company is in good financial standing. Inform the employees and stakeholders about the upcoming change.
In this way, they will feel more secure about the future of the business. You may also need to clarify some terms of the sale, if not all. Always support the smooth transition to enhance confidence.
14. Determining The Timeline For the Transfer Of Ownership
The timeline for transferring business ownership to a family member depends on several factors. One must consider the legal requirements and complexity of the business structure. However, the readiness of the family member to take over the business is also essential.
Planning and communication is the first step that needs to take place. Then comes the business valuation, agreement, legal and regulatory requirements, etc. Family members should also conduct specific business due diligence to understand the financial and operational aspects.
The current owner should work with the family member to create a detailed transition plan. This is at least the common practice. The transition support includes document handover, training, introductions to key customers or vendors, and any other necessary steps for a smooth transfer of ownership.
15. Finalizing The Transfer Of Ownership
Selling a business and finalizing the transfer of ownership has many steps to consider. First, assess the market value of the company. You need to negotiate the term and draft a purchase agreement. Seek tax and legal advice and understand the tax implications of the sale.
Once all the necessary paperwork is in order, complete the documentation to transfer ownership officially. It includes signing stock certificates, sharing titles, and updating business registrations, permits, licenses, etc.
Remember, a family transfer is most likely a share sale than a assets-only sale. So, the paperwork can get somehow complex and time-consuming.
16. Maintaining Communication After The Transfer Of Ownership
Maintaining effective communication after the transfer of ownership is crucial. It will help in nurturing a healthy relationship.
Most importantly, establish clear expectations; second, open communication channels during the negotiation process.
Honest conversations will help set the foundation for a successful transition.
17. Separate Personal And Business Relationships
Selling a business to a family member may blur the lines between some personal and business relationships. It is your responsibility to separate the two clearly as much as possible so that there will be no conflict of interest.
Apart from that, separating the two will also help to avoid making any emotional decisions. Family businesses need proper structure and careful planning.
18. Establish Fair Market Value
Doing a professional valuation helps determine your business’s fair market value. Hence, this thing will ensure that you are selling your business at a reasonable price. Moreover, you can also avoid any conflicts and disputes in the future.
The best way to understand your business worth is by obtaining a professional business valuation.
In conclusion, there are many vital points to remember when selling a small business to a family member in Australia. Before the sale, one needs to establish clear communication and expectations. It is better to discuss the terms of the sale and the potential conflict that might arise sooner than later.
Another important thing is that selling a business can impact family relationships. It is vital to consider the emotional aspects of the sale. Likewise, it is necessary to understand how it will affect the overall family dynamics with immediate and extended relatives.
It is also crucial to handle all legal and financial aspects. Hence, one must seek professional advice and involve accountants, lawyers, and business brokers. These people are knowledgeable and can quickly assist with the sale.
Overall selling a small business to a family member is a challenging process. By following the points mentioned above, you can navigate the sale successfully, minimizing the risks and conflicts. In addition, you can also ensure a smooth transition for both parties involved.
Thanks for reading!