Owning and operating a family business is rewarding, but it also has a unique set of challenges. A family business often involves a commitment from the entire family to maintain the legacy and vision of the business owner, while balancing the emotions and interpersonal dynamics unique to families. Family-run and -owned businesses are built upon trust and personal relationships. This can cultivate a strong sense of loyalty, but it can also lead to personal and emotional stress when tensions within the business flare. While traditional businesses are able to establish the transition of leadership or discuss a change to the business’s direction at an arm’s length, family businesses must balance the emotions and relationships of those involved. The following are some helpful legal strategies to consider for your family business to help avoid possible points of friction.
Review the business entity type
If you’re establishing a business, deciding on the type of business entity is the first step. When selecting the structure for your business, make sure you understand the various options, such as sole proprietorship, limited liability company, C-corporation, S-corporation, etc., and the tax implications and legal liabilities associated with the each. There are different entities to choose from each offering benefits and drawbacks. It’s best to research thoroughly and determine which entity type best suits your needs.
For those businesses that are already established, many business entity types can be converted if necessary to better address the emerging goals of the business. If you’re stepping into the ownership role of an already established entity, consider the impact of the entity structure on any of your non-business assets. Depending on the entity structure, it may be necessary to title or otherwise separate and protect your personal assets from potential creditors of the business.
Review the governing documents
The governing documents concern the internal operating procedures for the business. These documents establish the relationships between owners and how the business will be run. It’s important to read and understand these documents and appreciate the requirements before you sign them. With family businesses, these documents can serve as a nonpartisan referee when it comes to inter-family emotions or tensions. However, if these documents are disregarded, outdated or poorly drafted, it can cause conflict or uncertainty among family members in the event of a dispute. In addition, an owner can raise the issue that corporate formalities are not being followed—even if that is what the business has always done in the past—thus potentially opening those in leadership roles to liability.
For those individuals taking over family businesses, It’s important to review and revise the governance documents to put in writing the current requirements regarding the operation and management of the business. When creating these documents, one size does not fit all, and it’s important to consult an attorney to create governance documents that address the roles and responsibilities unique to your family business.
Sometimes with family businesses, the formalities of business ownership are disregarded in favor of a more casual and familial business structure because of the sense of trust and love we have for our family members. However, these formalities are meant to protect the business and its owners and can insulate them against potential issues between family members in the future. Hiring an attorney to assist in evaluating the entity type and drafting and/or revising governance documents is much less expensive than litigation and can help avoid the emotional drain of family conflict.
Succession Planning
Succession planning is a process, not an event. Do not wait until something happens that forces a plan out of necessity. Start thinking about the future now. It’s easy to get caught up in the day-to-day of running the business, but it’s important to ensure that the next generation can continue the business’s legacy.
Establish your estate plan. Including your business in your estate plan ensures a smooth transition and prevents disruptions to the operation of the business. It also allows you to determine exactly how you want ownership and management to transition. An estate planning attorney will create a comprehensive estate plan taking into consideration tax obligations and other liabilities. Taking this step can protect the wealth you have created and minimize future disruption or conflict among family members. Buy/Sell Agreements can also be drafted, which are legal documents that establish the process and procedures for buying out a family-member’s interest in certain situations. Once you have created an estate plan, it is important to revisit it periodically to ensure the plan still outlines your desires for the business.
While no one likes to think of the possibility of being embroiled in litigation with family, one of the biggest mistakes someone can make is to assume “it will never happen to me.” It is important to take steps to anticipate areas of possible tension within your family business and establish plans for management and succession to avoid future tension and headache.
LeeAnne Schocklin
LeeAnne C. Schocklin is an associate attorney at Midgett Preti Olansen PC. She concentrates her practice in trust and estate litigation. LeeAnne graduated from William & Mary Law School where she was a member of the Moot Court team and an Articles Editor for the Business Law Review. She has been recognized by Best Lawyers “Ones to Watch,” Virginia Business Magazine’s Legal Elite, and Coastal Virginia Magazine’s Top Lawyers.
