Estate planning for business owners is always important, and the number of liquidity events—such as business sales or infusions of capital—and potential tax changes in the near future, have only amplified the value of proactive planning. It is an essential undertaking for many business owners who want to ensure the continued success of their business and their family’s income and legacy. However, structuring assets in a trust can present special challenges for business owners who may want more control over their assets, have enhanced asset protection needs or desire confidentiality.
Fortunately, a Delaware trust can offer several advantages for business owners such as broad flexibility for managing assets, and potentially substantial estate and gift tax savings.
Directed trusts provide business owners with more control
One of the biggest challenges for business owners considering estate planning often is the fear that they will no longer have control over their most significant asset—their business.
With most traditional trust structures, the trustee has a fiduciary responsibility for the management and investment of trust assets. However, when the primary asset is a closely held business, it can be difficult for the trustee to fulfill their fiduciary responsibility and the trustee may not fully understand the nature of the business. For example, because the trustee has a fiduciary duty to diversify the trust’s investments, the trustee may feel compelled to sell all or part of the ownership interest in a business or manage it in a way that goes against the goals of the business and/or family.
A Delaware directed trust, however, allows the business owner creating a trust to designate one or more advisors to manage trust assets and make investment decisions (often called an investment direction advisor), while the trustee administers other aspects of the trust (often called the administrative trustee). By dividing the traditional responsibilities of a trustee this way, trust assets can be managed by the investment direction advisor without trustee oversight and the administrative trustee is not liable for the investment direction advisor’s decisions. In addition, if the business owner chooses to designate himself or herself as investment direction advisor, they will have full discretion over how trust assets are invested and have more control over the retention and sale of their privately held business interests, even though those interests have been transferred to the trust.
Asset protection trusts help shield business assets
An asset protection trust is another beneficial planning option for business owners. Asset protection trusts are irrevocable trusts that allow the person who creates the trust to remain a beneficiary if statutory requirements are followed. This means the business owner can receive payments of income or principal from the trust, while shielding trust assets from creditors.
Asset protection trusts can also be helpful for business owners who have multiple business interests. For example, if a business owner has a successful company and wants to start another business, they can place their more established business in an asset protection trust and protect its assets should the new business fail or experience an unexpected financial loss.
Asset protection trusts can be a powerful tool. As with any asset protection strategy, they are not a solution when creditor issues already have arisen. Proper planning before creditors are on the horizon, and with the correct assets, can be key to any successful asset protection strategy.
Quiet trusts keep business interests confidential
Traditionally, a trustee must provide information to beneficiaries periodically. However, Delaware allows for the creation of “quiet trusts” that remove this requirement to provide information for a period of time, or until the beneficiaries reach a certain age. A quiet trust can help business owners maintain confidentiality over business interests, avoid beneficiary scrutiny over how trust assets are managed and invested, and prevent the disclosure of information about the trustee’s management of the family business. This is especially relevant in instances where non-voting family business interests are assigned to a trust for estate planning purposes.
State income tax benefits
Transferring an interest in a privately held business to a trust governed by favorable state income tax rules, such as in Delaware, may provide a significant economic advantage to trust beneficiaries. Any income retained by a Delaware trust is generally not subject to Delaware state income tax as long as the trust beneficiaries are not Delaware residents. This may also apply to proceeds from the sale of privately held business interests. However, it’s important to note that beneficiaries who receive trust distributions may still be subject to taxation on those distributions, and the trust may be taxed in the grantor’s home state depending on the rules in that state. As always, you should consult with your tax advisor to determine the impact to your tax situation.
If you’re interested in transferring your business to a trust, there are several reasons why Delaware may be attractive as the state law for your trust. For more information about whether Delaware is the right choice given your circumstances and objectives, contact your CIBC Private Wealth Advisor or visit the CIBC Delaware Trust Company resource page.