Do you remember when you decided to incorporate your business? And why? The most common reason, of course, is that incorporating provides liability protection for you, the business owner, when it comes to business activities. Do you remember the assets you were trying to protect when you did this – your home, cars and maybe a small retirement account?  And what are these assets now? A new, bigger home; nicer cars and a larger balance in your retirement plan? And that small business that you incorporated is now worth 1, 2, 5 or 10 million dollars. And if I was a betting man, I would bet this business represents 90% or more of your total net worth. The irony is that your goal of incorporation was to shield your assets. Now those accumulated assets after years of success are not shielded at all – they are exposed to a much greater degree of business risk by sitting inside the corporation.

First, I want to say that you shouldn’t feel alone in this: this is a far too common pattern of incorporation and growth. But now is the best time for you to learn about the importance of untying your wealth from your business. It not only shields these assets from potential creditors tied to business transactions, but it also simplifies business succession planning, estate equalization among your heirs and the problems associated with estate tax issues.

Let’s see if any of this sounds familiar: You have two children. One child is active in the family business. The other is not. Your wishes: Equalize your estate between your children. The problem: Your total estate is worth $3 million. Your family business makes up $2.5 million of this total.

Or let’s try this one: Your business is worth $3 million. You have three children, two of whom run the family business with you. At your death, the third will become a co-owner of the family business by inheriting your shares. She becomes party to an unfunded buy-sell agreement stating she cannot sell her shares to a third party or use them as collateral. In your eyes this is a great gift. But your child doesn’t work in the business and doesn’t receive any benefit from owning these shares.

Or forget the children. Let’s just sell the business. Well, I have some news: The IRS discourages excess assets inside a corporation and the tax implications can be astonishing. Look at liquidation: appreciated assets upon liquidation will result in income tax for the corporation. Additionally, each shareholder will be taxed on these gains. “Double taxation” anyone? So what about selling the assets inside the corporation now – which is the most common type of corporate sale? When assets are sold the corporation will have to recognize the gains. And again, the corporation will distribute these assets to the shareholders, and the shareholders will also recognize the gain. “Double taxation” again!

P.S. Assets accumulating inside a corporation don’t have to wait for a sale to take place for them to be taxed. As I mentioned before, the IRS really doesn’t like this. Apparently, they think you’re trying to lessen the burden of income tax on the shareholders so they penalize you. This is known as an accumulated earnings tax or personal holding company tax.

Consider what each of these scenarios look like if you had been extracting assets from your business all along. Yes, you probably would have paid a little more taxes along the way. But frankly, you have to weigh that against the much larger tax burdens down the road. And besides, that’s what we are here for – to help you reduce those taxes with other tools. Let’s take a look:

Scenario 1: Your family business is only worth $500,000, not $2,500,000. The rest of your $3 million estate is family wealth. You can probably figure out a way to equalize your estate.

Scenario 2: You wouldn’t have to worry about giving shares to your child not involved in your business. Just provide them with a trust funded with cold hard cash.

Scenario 3: The smaller the business, the less valuable it is and the smaller the tax bill. Oh, and it might be a little easier to find a buyer-smaller price; larger market.

Scenario 4: Not applicable.

So how do you untie your wealth from your business? Unfortunately, that would take a few weeks and several articles to cover efficiently. The thing to know is that it is possible and you can do it tax efficiently. We have worked with many individuals and families just like you and yours, and I recommend that you just don’t try to do the job alone.

VSR does not provide tax or legal advice.