Tax Implications for Family Businesses

Survey after survey reveals that tax issues, particularly those around income tax and state tax, are at the forefront of many family business owners’ minds.

When it comes to taxes, family businesses have unique considerations – and extra rules that quickly can become confusing and burdensome.

In addition, the dynamic and ever-changing nature of the tax code demands ongoing attention, underscoring the importance of a business-oriented tax advisor as a crucial part of a family business owner’s team.

In our experience, we’ve found that we can classify critical aspects of tax planning for family businesses as operational, annual recurring income tax issues, and estate tax matters.

Let’s take a closer look.

Operational Tax Issues

One of the foundational decisions family business owners face is choosing the appropriate business entity.

The IRS stipulates different rules for family-run businesses depending on the type of entity it is. Today, pass-through entities like S corporations and limited liability corporations dominate the landscape.

However, it’s important to note that each entity comes with its own set of advantages and disadvantages, requiring tailored choices based on both tax and liability considerations.

Managing the chosen legal entity is equally crucial to ensure it is respected and adheres to all tax regulations.

A key concern in operational tax planning revolves around expenses within the business. It is imperative to determine whether expenses are customary and ordinary for the business, passing IRS or state tax reviews, and avoiding the risk of inappropriate deductions.

Additionally, capital investments (capex) offer opportunities for significant tax reductions through various accelerated options.

Conducting an after-tax analysis with the guidance of a financial professional is a good idea to ensure that business leaders are making informed decisions about their investments.

Budget for that and establish this practice as part of your governance and profitability planning.

Estate Tax and Succession Planning

Transition tax, or succession tax, is the second most critical tax issue for family businesses.

Early planning is crucial, involving a spectrum of options such as family limited partnerships, employee stock ownership plans (ESOPs), and employee benefit trusts.

The ultimate goal is to engineer a tax-favorable transition, securing a step-up in basis at the lowest possible cost for the future owner.

A notable upcoming change in 2025 involves the estate tax exemption being halved from 13 to 7 million. Family businesses contemplating wealth transfer should consider accelerating their plans to take advantage of the current exemption.

The dynamic nature of tax planning, marked by frequent changes in regulations – particularly targeting high net worth individuals, who are often family business owners – underscores the importance of having an expert tax advisor on the advisory team.

Tax codes change constantly, so you can’t just memorize them and move on. As a business leader, you’re forced to stay current on all salient updates to tax codes and how they affect your business.

Think of your tax advisor like your family doctor: see them regularly to stay healthy and up-to-date on any tax changes that affect your organization.

State and Local Taxes

In addition to federal taxes, family business owners need to be attentive to state and local tax implications, which can be even more aggressive.

The rules vary across communities, and seemingly simple operating decisions can have significant consequences for tax liabilities.

It is crucial for family business owners to recognize and prioritize these issues, even if they might be more attuned to federal tax matters.

Taxes and Strategic Planning

Hear us loud and clear on this one: while tax considerations are vital, they should not always take precedence over long-term, strategic business decisions.

Balancing the strategic advantages of business decisions against tax implications is a continuous challenge.

The potential conflict arises when decisions for tax savings hinder strategic growth opportunities or operational efficiency. Achieving a balance that aligns with the overall goals of the business is essential.

There’s no doubt that family business owners face a myriad of tax implications that span both operational and estate-planning concerns. The ever-evolving tax landscape requires a proactive approach, with regular checkups by a business-oriented tax advisor to ensure compliance and optimize tax strategies.

When family business owners understand the complexities and nuances of tax planning, they can make informed decisions that align with their long-term business goals while minimizing tax liabilities.

And we can help.

Our team at Ferguson Alliance brings both CFO and CEO experience, adding valuable insights to the intricate navigation of tax planning for family businesses. We also stand prepared to provide referrals to any number of skilled tax advisors.

We’re here to help you make the best decisions possible for your business. You can book a call with one of our advisors here: book a call