Business Succession + Legacy Planning

Business Succession + Legacy Planning

Every owner inevitably exits; the question is "on what terms?" We believe that business succession is specific to each client and the management teams, families and unique casts of successors involved.

At Kegler Brown, we look beyond the numbers, taking a holistic and practical approach to legacy planning. Our team-based philosophy is collaborative, so we first focus on developing a meaningful understanding of our clients’ businesses before addressing critical planning strategies.

Our team includes some of the most highly regarded succession planning attorneys in the region. Our client partners trust our work and identify with the counsel we've provided to our prominent home-grown clients, including many of Ohio's best-loved companies and their owners.

Our Services

  • Tax planning: avoiding double taxation; achieving taxation at lowest rates; minimizing estate and gift tax transfer costs
  • Leadership: maximizing opportunities for successful transition and succession; assisting in identifying successors
  • Compensation: assisting in successful transitions for all potential stakeholders, including appropriate incentives
  • Strategy alternatives: mergers and acquisitions; ESOPs; management buyouts
  • Buy-sell agreements: proactive planning that provides for succession upon death, disability and early retirement to avoid business stalemates
  • Financial and estate planning

Our Clients

We primarily represent private companies and their owners throughout Ohio. We also specialize in serving the unique needs of first and subsequent generations of business owners.

People

Chuck Kegler

Director + Chair, Corporate Practice

614-462-5446Email
Joe Colvin

Director

614-462-5483Email
Tom Sigmund

Director Emeritus

Ted M. McKinniss

Of Counsel

740-387-1120Email

Experience

ESOP Stock Purchase Agreement for an Ohio-Based Manufacturer

ESOP Stock Purchase Agreement for an Ohio-Based Manufacturer

Pennsylvania Plumbing and Mechanical Supplier ESOP

Pennsylvania Plumbing and Mechanical Supplier ESOP

Sale of Company Equity to Florida-Based Electrical Sales ESOP

Sale of Company Equity to Florida-Based Electrical Sales ESOP

Stock Purchase Agreement for an Electrical Contracting ESOP

Stock Purchase Agreement for an Electrical Contracting ESOP

Administration of $70M Estates and Trusts

A person using a calculator while reviewing estate documents in front of two others

Sale of Majority Equity Interest in Real Estate Brokerage by Multiple Owners

City with investment charts overtop, representing a brokerage

Shareholder Negotiation and Sale of Fire Safety Company Stock

Magnifying glass over a fire logo

Multi-Company Ownership Transition Agreement + Sale of Equity Interests

Two people shaking hands in an office behind glass walls

Sale of Food Safety Consulting and Research Business

Publications + Presentations

publication

Ohio’s Revised LLC Act - What You Need to Know

Newsletter

Crash Course in Family Succession – Part 3

Smart SummaryWhile family transitions can bring onerous estate and gift taxes (though for only a small percentage of the population), sophisticated trust planning can help owners avoid these taxes entirely.Implementing a Grantor Retained Annuity Trust (“GRAT”) allows an owner to transfer ownership of assets over time to the next generation while avoiding estate and gift taxes on future appreciation.Similarly, an intentionally defective irrevocable trust (“IDIT”) is a flexible tool that allows an owner to be treated as retaining assets for income tax purposes, but not for estate tax purposes, which allows for some unique planning opportunities.Major changes could be coming to the tax laws soon which may severely limit – or totally eliminate – some of these planning opportunities. So those seeking to take advantage of these strategies should consider taking action very soon.If you stuck around for the first two installments of this treatise on the topic of family succession, in which we covered avoidable family succession landmines in Part 1 and transition through estate and gift planning in Part 2, you’re going to love Part 3 (I hope!). And if family succession is on your mind, I’d be remiss if I didn’t give you the opportunity to check out the candid conversation I just had with renowned entrepreneur Jim Grote as part of the Exit Planning Institute’s programming on family transitions. In full disclosure, Kegler Brown is a founding member of the EPI Central Ohio Chapter.Check out the interviewAnyway, we’re here to talk about another traditionally effective (if done correctly) strategy for transitioning family wealth and business interests to the next generation(s). To quote Billy Joel- it’s “A Matter of Trust.” But not just any kind of trust, mind you- we’re going to cover how business owners could leverage Grantor Retained Annuity Trusts and Intentionally Defective Irrevocable Trusts to achieve their goals! Who’s excited!?!It's GRAT-TasticThe first thing you need to know about tax lawyers is that they love their acronyms. Introducing the first acronym in our parade: the Grantor Retained Annuity Trust (GRAT). There will be a test.I’ll spare you from all of the mind-numbing details, but at the most basic level, the GRAT provides a structure to transfer ownership of an asset over time by transferring future appreciation in the business’ value to the next generation free of estate and gift taxes. How does that work? This strategy comes straight out of the tax code. Here’s the overly simple explanation. The business owner sets up this special trust known as a GRAT and transfers some of the company’s stock to the GRAT. Then, the IRS gives us a required rate of return to use. In the simplest form, the GRAT has to pay the business owner his or her initial principal, plus the required rate of return in the form of an annuity over the course of the GRAT’s term. Anything that remains after making the required annuity payments—being the additional appreciation in the value of the company’s stock over the required rate of return—passes free from estate and gift taxes to the next generation (or a trust for their benefit).So the benefit of the GRAT in this scenario is a combination of discounting (as we mentioned in Part 2) and the ability to move appreciation to the next generation in an estate/gift tax-free manner. All with pretty minimal effort, other than setting it up and giving it time to work. How about that?And what happens if the economy tanks again and the stock doesn’t appreciate (or worse, loses value)? In that case, the business owner just takes the stock back and we start over. It’s heads I win, tails I tie.So what’s the catch? There are a few. Most notably, if the grantor (that’s the business owner in our situation) doesn’t survive the term of the GRAT, then the whole transaction gets canceled and all of the GRAT’s assets are returned to the grantor’s taxable estate. In one sense, the grantor is no worse off than had he done nothing at all, but it’s still not ideal when the tax benefits are lost in this way. In response, many business owners will employ a strategy of “rolling GRATs,” which are simply a series of short-term GRATs implemented in succession. The gains (if any) get captured with each short-term GRAT, and then the grantor starts all over again with a new GRAT. Rinse and repeat.The rolling GRAT is a good strategy, but it still has some mortality risk—we’ve only limited the risk. It’s also a strategy that has long been under attack, particularly by Democratic administrations. Will the Biden administration finally be the one to kill the “rolling GRAT” with a mandatory 10-year GRAT term or something else? Time will tell.In addition, the GRAT still requires—by virtue of the mandatory annuity payments—that all or most of the initial principal plus some additional amount be returned to the grantor over the course of the GRAT term. The hope is that, over time, the appreciation that passes to the next generation will dwarf the original principal, but in most cases that takes a lot of time to occur. So, as with virtually all estate/gift tax planning strategies, the GRAT needs a substantial amount of time to work as intended. Because the GRAT is a nifty but imperfect solution to the problem, smart people came up with another alternative with its own benefits and pitfalls… Oops IDIT Again The next acronym you’ll need to know for the exam is IDIT: intentionally defective irrevocable trust (also sometimes known as IDGT—intentionally defective grantor trust). Now what the hell is that? And why would anyone intentionally make something defective?Long story (and as far as most people are concerned, not a particularly interesting one). But the IDIT takes advantage of a quirk in the tax law that treats a particular kind of trust as though the grantor still owns the trust’s assets for income tax purposes but not for estate/gift tax purposes.Cool story but who cares? Well that little peculiarity in the tax law can be used to do some powerful stuff. Suppose a business owner sets up one of these magical IDITs and sells stock in the business to the IDIT. What does that accomplish? Because the assets in the trust are outside of the grantor’s estate for estate/gift tax purposes, all of the future appreciation in that stock will grow free from estate/gift taxes. And when combined with discounting, the IDIT sale can effectively give us all of the same benefits as a GRAT.And remember, this is a sale. Not a gift. So we aren’t constrained by the gifting limits noted in Part 2. There’s only a relatively small gift that needs to be made at the outset to implement this strategy. So we can move bigger values than we could with straight gifting.Hold on, though. If the business owner sells her stock to the IDIT, won’t she trigger a capital gain on the sale of the stock? Excellent question, but the answer is no. That’s because the IDIT is treated as though the business owner still owns the trust for income tax purposes. You don’t have a taxable gain if you sell something to yourself. Pretty neat, huh? But why’s this any better than a GRAT? First, this sale can avoid the mortality risk associated with the GRAT. If the grantor dies when half of the note from the IDIT sale is paid off, only the remaining half of that principal is included in the grantor’s taxable estate. In the GRAT, the full value of the stock gets put back into the grantor’s taxable estate if the grantor dies during the GRAT term. Or, some healthy business owners can limit the mortality risk even more by using a so-called self-canceling installment note (SCIN). Another acronym! The SCIN is a unique animal that allows all of the remaining unpaid principal balance on the note to be canceled automatically (and without estate/gift tax consequences) upon the grantor’s death. While death remains inescapable for us all, the SCIN at least avoids the additional insult of losing your tax benefit due to a premature death. Second, GRATs are pretty inflexible. The IRS tells us how and when the annuity must be paid, with limited room to maneuver. In contrast, IDIT sales have more flexibility. The IRS is still going to require a minimum interest rate on the note. And, if the SCIN feature is added, the IRS will also require an additional “mortality premium,” which depends on a number of factors, most notably the age of the grantor when the sale occurs. Depending on prevailing interest rates (which are incredibly low as of the time of this writing) and how and when an owner completes the IDIT sale, the hurdle that must be achieved may only be a few measly percentage points, allowing any growth in the business over that hurdle to pass free from estate and gift taxes. So long as we meet those minimum requirements and otherwise structure the plan appropriately, we have a lot more flexibility in how we structure the sale, including longer note terms (without fear of losing it all due to a premature death) and the ability to utilize some types of alternative payment schedules, the flexibility to make prepayments, etc. Third, IDITs can do way more than GRATs. As noted above, GRATs exist for a period of time and then disappear. On the other hand, IDITs can be set up, in some cases, to continue in perpetuity—the so-called “dynasty trust.” If properly structured, a dynasty IDIT could hold stock in a manner that is not only free from inclusion in your own taxable estate, but also the taxable estates of your children, grandchildren, and beyond. This type of planning is incredibly powerful from a tax standpoint but also full of traps for the unwary.IDITs can also give us additional flexibility to provide for the business owner’s spouse and include other provisions designed to provide for and protect the business owner’s family and the trusts’ assets. There are some important restrictions that need to be navigated, but the IDIT offers a lot of opportunity to achieve a business owner’s tax and personal goals.There’s one other fun feature of the IDIT (and other grantor trusts, including GRATs) that’s worth pointing out: the business owner gets to pay all of the income taxes on the trust’s income during her lifetime! Isn’t that exciting?Hold on. Why is it a “benefit” to pay the income taxes for the trust assets—particularly when the business owner doesn’t get the income from those assets anymore? I usually get eye rolls or groans when I share this one with clients. But hear me out on this. If a parent just gives a child cash to pay the child’s taxes, that’s a taxable gift. We already talked about the limitations on taxable gifts in Part 2 of this series. But if the business owner pays the income taxes generated by the IDIT, it’s not a gift because the tax law treats her as owning the IDIT for income tax purposes. Yet the effect is the exact same as giving the kids cash to pay the taxes themselves. It’s a handy way to make a gift without it actually counting as a gift for estate/gift tax purposes, meaning that it won’t reduce your estate/gift exemptions or fall within the other gift limitations described in Part 2.And if our business owner decides one day that she doesn’t want to pay the IDIT’s income taxes anymore, there’s a way to “shut off” this feature, and the trust then starts paying its own income taxes going forward.One final caveat on IDITs, however. Unlike the GRAT, which is created by the tax code and fairly clear in terms of how you implement it, IDITs are not explicitly sanctioned in the tax code. They’ve been under attack by the IRS—and targeted by a few presidential administrations—for years. That said, they have been battle-tested in many court cases over the years. Until the law changes, they work. But they’re also dangerous territory for those who don’t tread carefully. Adding in features likes SCINs and dynasty trusts only makes this type of planning even more perilous. So be absolutely certain that you work with advisors who are experienced in this type of planning before embarking on an IDIT strategy. The rules in this area aren’t always black-and-white, and you want someone who’s been there and done that to guide you through. We’ve only scratched the surface in this article of all of the issues that need to be considered.---------------------------Over the past few months, we’ve walked through—in layperson’s terms—some highlights of the more common strategies business owners use to transition ownership to the next generation without having to break up the business to pay taxes, but there are many others. We didn’t even try to cover everything, and there are many other issues and limitations with each of the strategies we discussed that aren’t covered here. There’s also a whole host of other business, operational, succession, buy-sell, tax, insurance, financial, and family considerations that need to be addressed before heading down the path of adopting any of these strategies (or others). There’s almost always a push-pull to these things; when you implement a particular strategy, it creates other consequences, which, if not carefully addressed, can make the solution worse than the problem it was intended to solve. In some cases, you absolutely should not implement one of these strategies because it creates other issues. There’s no one-size-fits-all solution. And whatever tool you use needs to be specifically tailored to your specific situation. You absolutely need expert advice and guidance before implementing these strategies, or others. This world does not lend itself to DIY or an internet-generated form. You should not be relying on some internet article by a random (ahem) lawyer in Ohio.While I wish it wasn’t the case, these strategies are complicated. They make your head hurt. And they require you to start taking action sooner than you might otherwise want. But when done properly, they work. Don’t believe me? I can introduce you to real-life clients who have used each of these strategies to position their businesses for continuation and to provide for their families for generations to come. And to make things even more complicated, legislation is already pending in Congress that would severely limit or eliminate some of the planning techniques we’ve talked about. While it’s unclear whether and to what extent this legislation will ultimately be adopted, it’s clear that we probably have a relatively small window in order to implement some of these strategies. While we never want a tax strategy to dictate a business or personal outcome, now is the time to at least be thinking about the future and whether you should act!Your business wasn’t built in a day. Your succession plan won’t be completed in a day. But one bad day (i.e., your untimely death) combined with a failure to plan could mean instantaneous disaster for your business and financial ruin for your family. If a family transition is part of your goals, it’s literally never too early to start. It takes a lot of time and effort…and that’s on top of the immense time and effort you already invest in running the business. But if you’re willing to invest the time and effort required, the results can be immensely rewarding for you, your family, and all of the people who depend on your business’ success. You can beat the odds. You can successfully transition your business to the next generation in a way that satisfies your personal, business, and financial goals. The next step is up to you.Next Month: Oh Sh*t – Anatomy of an Indemnity ClaimRead last month’s piece: Crash Course in Family Succession Strategies – Part 2

The Anatomy of a Deal Newsletter
Newsletter

Crash Course in Family Succession – Part 2

Smart Summary While family transitions can bring onerous estate and gift taxes (though for only a small percentage of the population), sophisticated tax planning can help owners avoid these taxes entirely.Annual gifting can be a very effective, albeit sometimes slow and risky (if not done strategically), way to pass a company’s value on to the next generation.A strategy involving annual gifting plus some targeted and properly structured larger gifts can provide the right mix to move value to the next generation without creating additional headaches or problems.Last month, we addressed some of the reasons why family transitions are so hard. This month, I promise to be more optimistic (but also more boring—hey, it’s not my fault the subject matter is so dry) as we talk about how to actually make the transition work once we’ve laid the proper groundwork to ensure a successful hand-off to the next generation.As we said last month, transfers within the family raise a whole host of unique issues, and that’s also true of the actual nuts-and-bolts processes by which we accomplish the transfer. So let’s dive right in.Death + TaxesWe all know Ben Franklin’s old saying about death and taxes. That saying has never held more truth than when talking about a transfer within the family. And that’s because we don’t have to worry just about income taxes (which do still apply in family transitions), we also have to worry about estate and gift taxes. Whoopee!For as long as I’ve been practicing law, there has been some proposal or another to eliminate the federal estate tax. Yet, unless you died in 2010 (in which case, let me thank you for being a loyal reader of Anatomy of a Deal from the afterlife!), you’ve lived in a world where federal estate taxes still exist, with no signs of that changing anytime soon given the current political landscape.At the same time, however, estate taxes are becoming less onerous and affect fewer people. In 1975, the estate tax exemption per person (i.e., the amount of net worth an individual has at death that is exempt from estate tax) was $60,000 and the top estate tax rate was 77%. Ouch! Today, the exemption is $11.7 million and the top estate tax rate is 40%--at least for the next few years when the law is next scheduled to change. As a result, a married business owner today—with some proper planning—could avoid federal estate taxes entirely if the owner’s total net worth (including the business) at the time of death is $23.4 million or less.So despite the estate tax being a political hot button for many years, the truth is that it only affects a very small percentage of the general public and represents just a tiny fraction of the federal government’s revenue. However, of those whom it affects, a disproportionate number are owners of privately held businesses. And despite the fact that they are wealthy on paper, the reality is that most of those business owners’ net worth is tied up almost entirely in the business itself. If the IRS came knocking on the door for its 40% share, many business owners’ estates would be forced to sell off the company to generate the cash needed to pay the government. A disagreeable result for business owners who dream of passing the business on within the family.Fine. “Why don’t I just give the business to my kids before I die? My estate tax problem goes away, right?” Good thought, but Congress already saw that coming and enacted a gift tax, which complements the estate tax. So, if you make gifts in excess of those same exemptions as noted above (though, at some points in history, there have actually been lower gift tax exemptions than estate tax exemptions), you still pay the tax. There’s no simple fix to the problem.And it’s important to point out that the estate and gift tax exemptions are “unified,” meaning that gifts you make during lifetime against the gift exemption also reduce the estate exemption remaining at your death on a dollar-for-dollar basis. So you don’t get both a gift exemption and an estate exemption.Also, be aware that some states levy their own estate taxes. Ohio abolished its estate tax, but in other states, the state estate tax can be onerous.Are you still there? Oh, good. I thought I’d lost you. So now that we know the problem, what can we do? Sometimes you’ll hear it said that estate and gift taxes are a “voluntary” tax. While not literally true, the reason is that if—and that’s a very big IF for many business owners—you’re willing to do some sophisticated tax planning and you’re willing to do it early enough, you can avoid paying these taxes entirely. So let’s introduce some of the ways we can do that…depending on the specific situation.The Gift That Keeps on GivingThe simplest (but slowest) way to transition ownership from one generation to the next is through annual gifting. In addition to your estate and gift tax exemption as noted above, the government also gives you an “annual exclusion” whereby you can gift up to a certain amount per recipient, per year. As long as each qualifying gift stays under the annual exclusion limit (currently $15,000/recipient/year, but can change annually based on inflation) that amount doesn’t count as a gift for tax purposes and it doesn’t even count against your estate/gift tax exemption. Huh?Maybe an example will help. Let’s say business owner and spouse each give the full $15,000 to each of their four children every year. That’s a total gift of $120,000 per year. And because the children are all married, they can each give another $15,000 per year to their children’s spouses. There’s another $120,000. So that’s almost a quarter of a million bucks in value that can be transferred, per year, with no tax complications. Add in grandchildren, and you could increase these amounts even further. And the best part is that these gifts don’t reduce the business owner’s or spouse’s estate/gift tax exemption; the entire (current) $11.7 million remains available to shield further gift or estate taxes at a later date, or at death. And the gift doesn’t need to be cash. It can be any property, so long as you’re able to establish the value is less than the annual exclusion limit. One of the great benefits of using private company stock for gifts or any of the other types of transfers described below is that there are often discounts that apply based on the fact that the stock is non-marketable and non-controlling. That gives you more gifting bang for your buck. Discounting is a much bigger topic for another day, but suffice to say that you want to be sure you’re getting the help of experienced advisors whenever you’re transferring private stock.The downside of the annual gifting strategy, of course, is that it takes a long time to move really big values. If the business owner owns a business worth $20 million, he or she will need to start annual gifting very early to make any meaningful dent. And because the real power of annual gifting comes from having multiple gift recipients, the business owner has to “spread the wealth” among a bigger universe of people to get the greatest effect. Is the business owner comfortable transferring ownership to sons- or daughters-in-law? What about grandchildren?Some of those concerns can be mitigated by recapitalizing the company to provide for voting and non-voting stock, so that only the non-voting stock is being gifted. And trusts with so-called Crummey powers (Crummey is the name of the court case that endorsed this strategy—not a commentary on the quality of the trust, as I originally thought when I first started practicing law) can be used to ensure that the assets are “locked up” in some fashion and to protect those assets from creditors, divorce, spend-happy beneficiaries, etc. But there is still some risk whenever you broaden the universe of people who directly or indirectly own a part of the company.While annual gifting is great, at some point it may make sense to make bigger gifts and start using up some of that lifetime estate/gift tax exemption. This is particularly true when the exemption amount is scheduled to be reduced, as was supposed to happen at the end of 2012 and 2020 (but didn’t) and is next scheduled to occur at the end of 2025, unless it happens before then. Or it doesn’t happen at all. Or it goes up. The incessant political uncertainty over the estate tax makes planning for business owners exceptionally difficult.Even once you exhaust your exemption and have crossed the threshold into paying gift tax, there are strategies that can limit the gift tax exposure (such as so-called “net gifts”). And, while few business owners like the idea of paying taxes today, there are sometimes good reasons to do it now. First, making the gift now ensures that future appreciation in the value of the stock grows outside of the owner’s taxable estate. We avoid magnifying the problem by transferring the stock before it has even more value. Second, it’s actually mathematically true that paying gift taxes today is cheaper than waiting and paying estate taxes at death, all else being equal—which, unfortunately, is often hard to gauge given the ever-changing political dynamics. That’s because paying the gift taxes during lifetime will remove the gift taxes already paid from your taxable estate at death. For many business owners, a strategy involving annual gifting plus some targeted and properly structured larger gifts provides just the right mix to move value to the next generation without creating additional headaches or problems. Trusts can provide some flexibility and control over how the stock is handled post-gift. But, for clients where gifting alone isn’t sufficient—or where the idea of giving the business to children outright rather than selling is inconsistent with their personal planning or values—other options are available.Next month, we’ll continue with Part 3 of this deep dive into business legacy planning by covering related strategies for transitioning value during an owner’s lifetime: strategic trusts.  Next Month: Crash Course in Family Succession Strategies – Part 3 Read last month’s piece: Crash Course in Family Succession Strategies – Part 1

The Anatomy of a Deal Newsletter
publication

Crash Course in Family Succession – Part 1

Smart Summary There are plenty of specific reasons family succession plans fail, but most can be traced back to not addressing foreseeable issues head-on. Parents/Owners must realize that their children may not be capable of or interested in running the business and plan accordingly. Setting boundaries around leadership is critical- this can mean determining which of the children is “the boss” and should also outline the role of the parent(s) going forward. Often overlooked are the non-family employees and how a transition will affect their role in the company. If you’re a loyal reader of Anatomy of a Deal (i.e., you’re probably a relative of mine), you know that this series almost exclusively focuses on one type of potential exit plan: the sale to an unrelated third party. This month and next, we’re going to change things up a bit and talk about intra-family succession strategies. For many business owners, the dream has always been to pass the business on to one or more children. In fact, several studies indicate that the vast majority of business owners want to hand the business off to their children. Yet, far less than a majority actually do so. The statistics are downright sobering. According to the Exit Planning Institute’s research, only about 30% of family-owned businesses successfully transition from the first to the second generation. And only about 10% make it to the third. Next month, we’ll dig into some of the specific family succession strategies that we see. But before doing that, let’s explore some of the reasons why family transitions are so hard. And, just maybe we can attempt to uncover some answers that can help business owners chart a course toward success in family transitions. With a shout-out to the glorious days of 1980s-1990s TV…REASON 1: The Real World. This one is pretty easy to grasp in concept, but hard for parents to accept. We all want to believe that our children are capable of doing anything. And, for many parents, there’s an assumption that our kids will have the same passion for the business that has motivated the parents all these years. However, those hopes often don’t match with reality. If they did, my brother and I would be partners at Duffee Insurance. Many parent/business owners can’t—or won’t—accept the reality that their kids might not really have the capability to succeed their parents in the family business or, perhaps even more distressing, that they may not want to. Many family transitions fail because the hopes of the parents don’t align with reality. It’s time for parent/business owners and their children to stop being polite, and start getting real about the future of the children in the business.REASON 2: Who’s the Boss? Once we get past the first question, the next question is how to handle control issues. Unless there’s an only-child or only one child who’s involved in the business (we’ll get to that delicate issue next), there’s bound to be a question as to who calls the shots. The easiest solution is to give all of the children equal control. There are undoubtedly cases where that works, but far more often, shared control means no control at all and the business suffers as a result. In those cases, we tend to see two possible dynamics. First, there’s the situation where there is a “natural successor” who rises to the top and the other siblings inherently acknowledge and accept that. Alternatively, there’s a situation where there’s a constant power struggle between siblings, which usually leads to an ugly break-up at some point. In either event, business owners need to be open and realistic about how management and control issues will be handled post-transition. Just handing equal control to multiple siblings and expecting things to work out is a recipe for potential disaster. In many cases, the parents will choose a designated successor from among the children. While that may solve the immediate issue of ensuring that there’s someone in charge, it often creates conflict among the siblings. While that conflict may be unavoidable, it must be addressed head-on.REASON 3: The Facts of Life. We often use this seemingly simple question when talking with business owners who are considering family transitions: Is it important that we treat your children fairly or equally? The question usually elicits a puzzled response. Of course, we want to be fair. And fair means equal, right? Not necessarily. As an example, if you have one child with special needs and one who is independently wealthy, are you being fair to both children if you use more resources to provide the necessary care for the child with special needs? That’s clearly not equal. But is it fair? For business owners, the question of fairness vs. equality is inescapable. It may be impossible to sustain the business by simply dividing it equally among all of the children. So if one child gets the business (or control of it) while the others don’t, that won’t be equal. But it may still be fair. There’s no easy answer to this one, but parents who are business owners need to be able to think about what’s fair to everyone. Fair to the children. Fair to the business. Fair to the business’ stakeholders. And sometimes the business owner gets comfortable with the fairness vs. equality dynamic, but the spouse doesn’t. That’s why the spouse must always be a part of the family succession plan. Many family transitions never happen because the parents can’t bear to make a decision that results in some actual or perceived inequality. So they sell the business to a third party or an ESOP. And that’s a perfectly fine result for many families. It avoids conflict and allows the parents to treat the children both fairly and equally. Fair or equal? It’s a simple question on the surface, but it’s often really hard for a lot of families. And a successful family transition often hinges on the parents’ ability to separate the two.REASON 4: Family Matters. Business is hard. Family is hard. So, of course family business is going to be really hard. We all have disagreements with our co-workers sometimes. But most of us don’t have to share Thanksgiving dinner with them. And the lines between business and family will always blur. Sibling rivalries and family spats don’t stop at the company door. When we get involved in family business disputes, we often find that the source of the conflict is much deeper than the “business issue” that’s the apparent source of argument. In many cases, the real issue has almost nothing to do with the business, but with some conflict that happened when they were kids. When these long-standing issues fester, they threaten the business and the transition plan. They contribute to distrust. And without trust, a family succession is doomed to failure. In many cases, family counseling is an incredibly important part of the succession strategy, but we often see family members who are reluctant to participate. Logically, they believe that they are able to separate the business from the family. Unfortunately, on a subconscious level, it’s impossible to separate business and family. Family businesses are beautiful in many ways. But they also bring a unique set of challenges. Instead of pretending that we have to keep family and business matters separate, a family transition will only be successful when we accept that family situations affect the business and vice versa. That’s why it’s called a “family business.”REASON 5: Charles in Charge. Paradoxically, the biggest impediment to a family transition is sometimes the current business owner. The reason? It could be that the business owner is not emotionally ready to transition. Or it could be that the business owner’s vision for the business doesn’t match up with his children’s vision. Both are a source of continual—yet often unspoken—tension that can entirely derail the family succession. It’s important to emphasize that we’re not talking about cultural alignment here. It’s always going to be important that the business owner and successor have a common approach to the business’ culture. However, they’re bound to disagree on a lot of things. The parent will naturally have a strong sense of what’s good for the business, forged by years of trial-and-error. The child will have a fresh perspective that she will want to share and implement. Business owners sometimes want to keep a grip on everything that happens after the would-be transition. In many cases, that approach is destined to fail. The child quickly becomes frustrated and disillusioned with her role. Employees quickly see that the parent is still in charge and bypass the child entirely. That’s not to say that a parent should just hand over the reins without any questions asked. A staged approach where leadership responsibility is transitioned over time can be very effective. However, it’s important to have clear expectations about that arrangement—both between parent and child and with the company’s employees, customers and other stakeholders. This is often best addressed by having a written plan with clear milestones for how the transition will take place. And it’s equally important that the parent be comfortable with her role going forward. If the plan simply expects the parent to get out of the way and sit on the beach, it will fail. Business owners don’t simply go from living-and-breathing the business 100% of the time to 0% involvement overnight. It’s important to develop a clear life-after-transition plan for the business owner, which often will involve a real role for the business owner going forward, whether as a chairperson, trusted advisor or ambassador with employees or customers.REASON 6: The A-Team. So let’s say that we’ve got all of the above issues completely figured out. We’ve made it, right? Not so fast. Because there’s still the matter of how we handle the succession with non-family members. Non-family members are a big part of many businesses. And sometimes these people are incredibly important leaders for the business. They’ve been loyal to the business owner and embraced their role, and they have important institutional knowledge and experience that will be critical to the successful transition of responsibility to the next generation. But they’re also human. These people may have the hardest time accepting a transition from parent to child. Some of it is jealousy; they hoped—no matter how unlikely—that they might someday have the chance to run the show. Some of it is a belief—perhaps accurate—that they know more than the child. How could they possibly be required to answer to the child now? Or, they may be fearful that they won’t have a future role with a new owner. Another problem: they may be the least willing to express their concerns or uneasiness, for obvious reasons. Instead, we often see some leave the company after the transition, taking a lot of valuable experience and knowledge with them. Or we see some sort of persistent passive-aggressiveness that creates more damage and distrust. The solution? You can’t assume that your key team members are fine, even if they say they are. It’s going to take some heart-to-heart conversations with these folks to understand their fears and concerns. And then, it will take some work and creativity to see if there’s a solution that can get them comfortable with their role going forward. It’s important that they know they don’t have a veto right over the transition, but that they’re still very important to the business and that both parent and child want their continued commitment to the business. Maybe those conversations will reveal that some sort of incentive plan will help get them comfortable. Or maybe it will become clear that there’s no solution that will make them happy. Even in that case, it’s better to know that now than just to assume everything is fine, when it’s clearly not.REASON 7: Dynasty. The last reason we’ll talk about here—though there are undoubtedly others—is simply a matter of numbers. Families obviously get bigger with each generation. It becomes more and more difficult with each generation to transition ownership and satisfy the goal of overall fairness as each successive generation gets bigger. It’s also more and more difficult to maintain a consistent message and culture as each generation stretches farther and farther away from the founder. The decisions will become more and more difficult with each passing generation. At some point, it will probably be necessary for one sibling to buy-out another sibling, for a parent to take a child out of the business, or for the owner to ultimately decide that it’s time to sell the business. As if the family transition wasn’t hard enough on its own, the passage of time itself only makes it harder.---- Running and successfully transitioning a family business is incredibly difficult. But when done properly, it can be extraordinarily rewarding, for both generations. So why the long gloomy piece telling us all of these reasons why family transitions fail? Thanks, Debbie Downer. Yes, it’s somewhat pessimistic. But it’s also real life. The important point is that you cannot successfully complete a family transition without addressing these realities head-on. Ignoring the difficult questions won’t make them go away. While the tools we use to accomplish the transition are important (and we’ll address some of those next month), the first step must be setting the stage for a successful transition. The best succession plan technique will still fail 100% of the time if we don’t have the right platform in place. And to complicate things even more, there’s no one-size-fits-all solution to how we deal with these issues. Every business is different. Every family is different. So every plan must be different as well. That’s obvious, right? Well, believe it or not, I still get the occasional phone call asking me for a “form” succession plan. The good news? Your business doesn’t have to be just another statistic. If you’re willing to do the hard work of wrestling with the issues identified above (and undoubtedly others), you can buck the trend of failed family successions. I’ve personally had the privilege to work with a number of companies who have done just that. Their secret? Acknowledging these challenges and actively working on solving them together…not just when it’s time for a transition, but on an almost daily basis. Next Month: Crash Course in Family Succession Strategies – Part 2 Read last month’s piece: Equity Rollovers 101

The Anatomy of a Deal Newsletter
publication

Latest PPP Guidance Provides More Pieces to the PPP Puzzle

After more than a month without additional guidance from the Treasury or the SBA, new guidance was released on August 4th in the form of Frequently Asked Questions on Loan Forgiveness. Many borrowers have completed their covered periods and spent most or all of their PPP funds at this point. Accordingly, this guidance will be most helpful to those who have elected to use a 24-week covered period or have yet to apply for a PPP loan. If you have spent all of your PPP funds already, take solace in the fact that the SBA has clarified that borrowers may rely on the guidance available at the time of their application. With that out of the way, I have outlined some of the new pieces to the PPP puzzle below.Timing Timeline for Applying for ForgivenessBorrowers must apply for forgiveness within 10 months of the completion of their covered period. PaymentsBorrowers do not need to begin making payments on amounts not forgiven until the forgiveness amount is remitted to the lender by the SBA. Interest accrues on amounts owed during the time between the disbursement of the funds and the SBA’s remittance of the forgiveness amount on any amount that is not forgiven. After the lender receives notice from the SBA of the forgiveness amount, the lender is responsible for notifying the borrower of the forgiveness amount and the date on which the first payment is due. After that, the amount not forgiven must be repaid by the maturity date of the loan. Note that the maturity of the loan is 5 years if the loan was issued after June 5, 2020. For loans issued prior to June 5, the maturity date is 2 years, unless a different arrangement is reached between the lender and the borrower.Payroll Costs Cash v. Accrual BasisAccrual basis is reaffirmed for payroll costs incurred prior to the covered period, but paid during the covered period, and payroll costs incurred during the covered period, but paid by the next payroll date after the covered period. Cash Compensation and CalculationAll forms of cash compensation are includable as payroll costs (subject to the $100k annualized limit). This includes: tips, commissions, bonuses, and hazard pay. In calculating cash compensation to employees, it was not previously clear whether this would include the gross or net amount. The newest guidance clarifies that the gross amount before deductions for taxes, employee benefits payments, and similar payments should be used for calculating cash compensation. Group Health BenefitsAlthough not previously clear, the guidance clarified that forgiveness is not provided for group health payments accelerated from periods outside of a borrower’s covered period. However, those group health benefits payments by borrowers on behalf of employees that were incurred or paid during the covered period are still eligible for forgiveness. Retirement ContributionsAs with group health benefits, forgiveness is not provided for employer contributions for retirement benefits accelerated from periods outside of a borrower’s covered period. However, employer contributions for retirement benefits on behalf of employees that were incurred or paid during the covered period are still eligible for forgiveness. Owner CompensationThe guidance has provided detailed guidance on amounts paid to owners that are eligible for forgiveness for owners of C. Corps, S. Corps, Self-Employed Individuals, General Partners, and LLC Owners. Non-Payroll Costs Alternative Covered PeriodFor payroll costs, borrowers may elect an alternative covered period, beginning on their first payroll date after receiving their funds. However, this is not permitted for non-payroll costs. For non-payroll costs, the covered period is limited to the period beginning on the date of the disbursement of the PPP loan. Cash vs. Accrual BasisAccrual basis is reaffirmed for non-payroll costs incurred prior to the covered period, but paid during the covered period, and non-payroll costs incurred during the covered period, but paid during the next regular billing date after the covered period. Prepayments of Non-Payroll CostsPrepayment of all non-payroll costs (except for mortgage payments) is not prohibited. Unsecured DebtsInterest payments on unsecured debts are not eligible for forgiveness. Forgiveness is limited to interest payments on business mortgages on real or personal property (like auto loans). Renewal of Leases and Refinancing of MortgagesPayments on leases renewed during the covered period or mortgages that were refinanced during the covered period are eligible for forgiveness, so long as the obligation under the original agreement existed prior to February 15, 2020. Prepayments on lease obligations are not expressly prohibited. Transportation CostsPrior to the latest guidance, there was much confusion as to what constituted “transportation costs” as a permitted non-payroll cost. The guidance clarified that “transportation costs” refers to transportation utility fees assessed by state and local governments. Forgiveness Reductions Comparison Period for Seasonal EmployersSeasonal employers are to use the same 12-week period used for calculation of their loan amount as the period used for calculation of any reduction in the amount of loan forgiveness. Employees Making More Than $100kBorrowers are to include those employees who made more than $100,000 in 2019 on their forgiveness applications. Reductions to CompensationFinally, the guidance clarified that only decreases to an employee’s salary or wages are to be counted against a borrower for purposes of reductions to its forgiveness amount, as opposed to all reductions to that employee’s compensation.

publication

IRS Offers Important Guidance on Deductions for Trusts + Estates

Smart Summary A new proposed IRS regulation will have meaningful impacts on deductions for trusts and estates related to the Tax Cuts + Jobs Act of 2017 Costs incurred under Section 67(e) are NOT miscellaneous itemized deductions subject to the TCJA suspension, but are rather “above the line” Excess deductions under Section 642(h)(2) retain their character for the beneficiary upon termination of an estate or trust. The Tax Cuts and Jobs Act of 2017 (TCJA) suspended the deductibility of miscellaneous itemized deductions beginning after December 31, 2017, and before January 1, 2016 by adding Subsection G to Section 67 of the Internal Revenue Code. On May 7, 2020, the IRS issued Regulation 113295-18 (“Proposed Regulation”), which proposes: confirmation that costs incurred under Section 67(e) by estates and non-grantor trusts are not miscellaneous itemized deductions subject to the TCJA’s suspension, but rather are “above-the-line” deductions still allowed in determining adjusted gross income; andclarification that excess deductions typically taken by beneficiaries upon the termination of an estate or trust pursuant to Section 642(h)(2) retain their character for the beneficiary.Permissible Deductions for Estates + Nongrantor Trusts under Section 67(e)The Proposed Regulation confirms that estates and nongrantor trusts are allowed the following deductions under Section 67(e):Deductions for costs that are paid or incurred in connection with the administration of the estate or trust and that would not have been incurred if the property were not held in such trust or estate;Deductions concerning the personal exemption of an estate or nongrantor trust [Section 642(b)];Deductions for trusts distributing current income (Section 651); andDeductions for trusts accumulating income (Section 661).These deductions are not considered miscellaneous itemized deductions subject to the TCJA’s suspension. Rather, such deductions would be expressly excluded from the definition of miscellaneous itemized deductions and consequentially still allowable. Careful note should be taken that costs incurred by an estate or trust that would commonly or customarily be incurred by a hypothetical individual holding the same property are still miscellaneous itemized deductions and therefore likely not allowable. Excess Deductions Retain Character for the Beneficiary under Section 642(h)(2)The Proposed Regulation confirms that excess deductions typically taken by beneficiaries upon the termination of an estate or trust pursuant to Section 642(h)(2) retain their character for the beneficiary meaning the character of the deductions remains the same when transferred to a beneficiary as a result of a termination of an estate or trust. Instead of the total excess deductions being treated as one miscellaneous itemized deduction for a beneficiary, the Proposed Regulation would require an executor of an estate or trustee of a trust to separately identify deductions and characterize such deduction as:An amount allowed in arriving at adjusted gross income, such as those allowed in Section 67(e) as costs of administering an estate or trust;A nonmiscellaneous itemized deduction that is allowable in computing taxable income; orA miscellaneous itemized deduction currently disallowed.ExamplesThe following list highlights just a few examples of the different types of above-referenced deductions, but is not meant to be exhaustive. Executors and trustees must consult with counsel for specific guidance as to their unique tax filings: A Section 67(e) Allowable Deduction (Allowed): Probate FeesEstate tax preparation fees;Legal Fees concerning estate and trust administrationFiduciary commissions Nonmiscellaneous Itemized Deductions (Allowed):State tax expenseLocal tax expense Miscellaneous Itemized Deductions (Disallowed): Insurance premiums on underlying assetsHomeowner’s association fees or mortgage expensesMaintenance or repair costsInvestment management and custodial feesThe Implications Estates and trusts may continue to deduct costs associated with administering the estate, so long as those costs would not have been incurred if the property were not held in the estate or trust and would not have been incurred by a hypothetical individual holding the same property.Executors and trustees need to characterize deductions on Form K-1’s issued to beneficiaries.A beneficiary would essentially step into the shoes of an estate or trust during its final year and be able to benefit by claiming deductions for costs of administering an estate or trust, regardless of whether such deduction exceeded 2% of the beneficiary’s adjusted gross income because such deductions are already excluded from the 2% threshold that is otherwise applicable to miscellaneous itemized exemptions.Executors and trustees may rely on the Proposed Regulation for tax years beginning after December 31, 2017, until the final regulations are published in the Federal Register. Next StepsThe IRS is currently accepting comments on the Proposed Regulation. Executors and trustees are encouraged to reach out to counsel concerning deductions claimed after December 31, 2017, to see if an amended return is warranted and to consult counsel prior to making any future deductions. Kegler Brown will continue to monitor the developments surrounding the publication of the final regulations and its impact on itemized deductions for trusts and estates.  

Newsletter

The Post-Pandemic Future for M+A Activity

Each month, Eric Duffee looks at a different piece of The Anatomy of a Deal – a series of easy-to-digest articles that break down complicated aspects of business transactions – helping you better understand terms + processes that can shape the direction of your business. This piece is a collaboration with Bill Levendusky, an associate M+A lawyer at Kegler Brown who is working with business owners and corporate development professionals to plan their post-pandemic deal strategies.Smart Summary There will likely continue to be very little M+A activity in the short-term outside of distressed transactions. Private equity cash, eager investors, a solid pre-pandemic economy, and aggressive government stimulus set the stage for M+A to rebound. A true recovery will be inherent in improvement in economies abroad, progress in the treatment of COVID-19, and the successful re-opening of local economies. With the world economy in free-fall, it seems odd to be talking about the future of M+A activity. But there is reason to believe that M+A activity will rebound in the medium-term. So this month, we look at some of the reasons why deal volume may be poised to rally, and the signs we’re looking for to see when that improvement might occur. Why do we think a rebound is coming? First, let us emphasize that there are a lot of factors at play here. As such, it’s very hard to make any firm conclusions. In addition, we’re looking out a few months; there’s likely not going to be much conventional M+A activity in the short-term. There may be some distressed transactions (as we discussed last month), but many voluntary sellers—and the buyers who are interested in these targets—are waiting for some clarity and stability before jumping in. So with all the bad things happening now, what are the good things we see? A Mountain of PE Cash Private equity funds still have large capital stashes and are required to deploy that “dry powder” within a certain time period. So private equity funds are going to be aggressively looking for good deals. A “First-Mover” Advantage There has been some research as to whether buyers that jump into the M+A market earlier following a recession achieve better long-term results, and, although it’s not entirely conclusive, there is enough reason to believe that this potential will lead at least some buyers to test the M+A markets early on. Solid Pre-Pandemic Economic Indicators The economy was largely in good shape prior to the COVID-19 crisis. And while the timeline isn’t clear right now, the immediate public health threat will subside at some point in time. While there will be lasting damage to the economy, there is some hope that economic conditions could improve later in 2020 and continuing into 2021. Governments Pumping Liquidity into the Economy We’re not economists (but we did stay at a Holiday Inn Express last night). That said, it doesn’t take a Ph.D. to see the massive amounts of stimulus and financial support being provided by world governments to respond to the crisis. Consumer spending in the U.S. (which accounts for approximately 70% of GDP) fell almost 9% in March, but the ongoing government stimulus should theoretically fill in for at least some of that loss. While there will undoubtedly be companies that don’t survive “The Great Pause,” there is hope that the government support will help most businesses weather the storm and be positioned for a rebound. What are the signs we’re looking for in a recovery? After the Great Recession of 2008-2009, we could all look back and agree that we should have invested a bunch of money into the stock market on March 6, 2009. So, if a relatively quick recovery is in the cards as we hope, then how will we know it’s coming? Before we answer that question, it’s worth noting that traditional economic indicators—those charts from 2009-2010 that showed clear trends indicating that the country was emerging from the Great Recession—may not be as useful or as easy to project as they were a decade ago. Unemployment is considered among the most reliable traditional metrics when measuring the strength of the economy. During the week ending April 11, 2020, “Seasonally Adjusted Initial Claims for Unemployment Insurance,” according to the Department of Labor, numbered 5,245,000. The record for Unemployment claims in one week, prior to the COVID-19 crisis, was only 695,000, set in October 1982. During such extreme times, traditional metrics may prove less helpful. If the darkest hour is truly just before dawn, here are some of the signs we’re looking for to see when we’ve reached that point: Improvements OverseasAs many parts of the world—specifically China—began their response to the virus much sooner than the U.S., those regions will provide the first testing ground for determining how and whether economies can start functioning again. As China has begun to “re-open,” there are already reports of an uptick in M+A and investment activity there. At the same time, emerging markets, which often depend on foreign investment and tourism dollars, have been hit hard during this crisis. According to the Institute for International Finance, the economic impact of foreign capital fleeing emerging markets since January 21, 2020, may be three times worse than during the Great Recession. Investor confidence in emerging markets may be a key indicator of recovery, particularly with an eye toward those countries that were more effective at controlling the spread of COVID-19. Progress in the Fight against the CoronavirusOne of the best ways to bring about a quick change in economic conditions is for a medical breakthrough, such as a proven treatment for the virus that can provide a safeguard until a vaccine becomes available. Even if that doesn’t happen, some sustained success in avoiding a spike in new cases will be viewed as a win and start to restore investor confidence. Reopening of States and Local EconomiesWhile some states, such as Ohio, New York, and Texas, have announced plans to gradually re-open their economies, the process will undoubtedly be slow-moving. Ohio and Texas have announced plans to re-open in phases by business sector and New York has announced a plan to re-open in phases by geographic region. As states open their economies, look for consumer spending and wage growth to be on the move. Those factors—and how quickly the changes occur—may provide some insight into the U.S. economy’s health.This is uncharted territory for everyone, but there’s still reason for some optimism as of now. We continue to have numerous discussions with clients who are planning to move forward with transactions in the summer and fall. The coming weeks and months will be critical in determining how successful the rebound will be, and when we can expect it to occur. If fortune truly does favor the bold, then there may be some improvement on the horizon…at least we hope so. In May’s installment of Anatomy of a Deal, we will test this issue’s theories about market rebound and attempt to help owners track their business’s recovery against the economy more generally. Next Month: I'm Still Standing. Now What?Read last month’s piece: Crisis Demands Creativity in M+A

The Anatomy of a Deal Newsletter
publication

Strategies to Maximize Your PPP Loan Funds + Forgiveness

Smart Summary PPP forgiveness is valuable, but there are certain conditions that businesses should take care to avoid.Businesses should be documenting their payments meticulously and planning re-hires strategically to fully realize loan forgiveness.Employers may need to get creative with payroll in order to incentivize employees currently receiving unemployment while meeting their quotas for forgiveness.When the CARES Act passed on March 27, 2020, the Paycheck Protection Program (“PPP”) provided an opportunity for small business owners to receive an injection of cash while their businesses are subject to government-ordered shut downs. Those businesses fortunate enough to receive funds now face a myriad of issues as they spend their PPP funds while also trying to plan for forgiveness to the greatest extent possible. The most pressing issue is one of time. The funds must be spent within 8 weeks of the loan’s funding, yet many businesses are still closed to the public or working with limited revenue potential. To that end, this article provides some FAQs and examples to show how forgiveness works so small business owners can plan accordingly.Forgiveness Like anything else, forgiveness under the PPP comes with conditions. What is the limit on forgiveness? The full principal amount of the loan, plus accrued interest. What expenses can be forgiven? It depends on the total amount spent over the covered period. We’ve prepared a worksheet that helps you understand and calculate all of this, which can be downloaded for free here. Are there restrictions on forgiveness? Yes. 75% of the amount forgiven must be attributable to payroll costs. How can my forgiveness be reduced? There are two ways your total forgiveness amount can be reduced: a reduction in number of employees or a reduction to employees’ salary or wages. Refer to our worksheet for help on your specific situation. If there is a reason my forgiveness amount may be reduced, are there any second chances? Yes. The PPP provides a grace period. If, from February 15 to April 26, 2020, you had: (i) a reduction in the number of FTEs as compared to February 15, 2020; and/or (ii) a reduction in the salary or wages of one or more employees as compared to February 15, 2020, but you eliminated the reduction in FTEs and/or salary or wages by June 30, 2020, then the amount of loan forgiveness will be determined without regard to any reductions.Employment Concerns Once you have your PPP money and a plan in place for forgiveness, it’s time to spend. But many employers are finding it hard to allocate 75% of their spending to payroll when employees have been laid off and are happy collecting employment. With the CARES Act’s additional $600 benefit, employers may need to get creative to compete with the expanded benefits. Options include a one-time “recall” bonus, temporary raises, partial unemployment, or any combination of the three. The best strategy will depend on your recall needs and PPP spend plan. ExamplesTo better understand your options, here are three common scenarios to consider.Company A – No LayoffsOn February 15, 2020, Company A had 10 FTEs. From February 15 – June 30, 2019, Company A had an average of 10 FTEs. Over the 8-week period after receiving loan funds, Company A had an average of 10 FTEs. Result: Company A will have its loan amount entirely forgiven with respect to covered expenditures, provided that at least 75% of the forgiveness amount is attributable to payroll costs. Company B – 60% Layoff with Full FTE Re-Hires Before June 30On February 15, 2020, Company B had 10 FTEs.From February 15 – June 30, 2019, Company B had an average of 10 FTEs. Company B operated on a skeleton crew of 4 FTEs over the 8-week period after the disbursement of the loan funds. Company B hired 6 additional FTEs on June 15, 2020, as their business ramped back up. Normally, Company B’s forgiveness amount would be reduced by 60%, but because Company B eliminated the discrepancy in FTEs before June 30, 2020, the reduction amount is calculated without regard to such reduction. Note in this example that it is unlikely Company B will have spent all of their available funds because they operated on a skeleton crew during the 8-week payment period. Thus, there would likely be some funding remaining which can be repaid or retained as a loan. Result: Company B will have its loan amount entirely forgiven with respect to covered expenditures, provided that at least 75% of the forgiveness amount is attributable to payroll costs. Company C – 100% Layoff with Re-Hires and Bonus IncentivesOn February 15, 2020, Company C had 10 FTEsFrom February 15 – June 30, 2019, Company C had an average of 10 FTEs. Company C was forced to completely shut down operations. To make matters more difficult, most of Company C’s employees make less than $50,000 per year, such that its full-time employees were making more on unemployment than if they returned to work. In order to incentivize employees who would otherwise qualify for continued unemployment, Company C decides to implement temporary raises. It did not bring back any of them until week 6 of the 8-week period, at which point, Company C re-hired all 10 FTEs and gave them temporary raises in an amount equal to the entire loan amount, dispersed evenly among them. Result: Although Company C’s average FTE over the 8-week period was equal to 2.5 FTE, Company C’s loan amount will be entirely forgiven with respect to covered expenditures. This is because Company C eliminated the discrepancy in FTEs before June 30, 2020. Further, all payroll costs, including the incentives, were paid during the 8-week period. What You Should Do Now Document Everything. When you apply for forgiveness, you will need to provide documentation of payroll records over the covered period. Such documentation may include Form 941, state quarterly wage unemployment insurance tax reporting forms, or equivalent payroll processor records that best correspond to the covered period. You must also submit evidence of business rent, business mortgage interest payments on real or personal property, or business utility payments during the covered period if you used loan proceeds for those purposes. Accordingly, you will want to document all expenses with these important categories in mind. Project and Plan. As with Companies A, B, and C above, each borrower will be in a unique situation. You should project your FTEs over the 8-week period against both your designated historical comparison period and February 15, 2020. You will also want to plan how and when funds will be expended with forgiveness in mind. Know the categories of expenses for which forgiveness is permitted and that the expenditures must occur over the 8-week period after you have received the funds. Watch for Reduction Traps and Don’t Forget About Grace. If your projected average of FTEs over the 8-week period is less than your historical comparison period, then you should look for creative ways to receive 100% forgiveness. As long as you can eliminate any discrepancies prior to June 30, 2020, then you may be able to take advantage of the grace period to receive full forgiveness. Work with Your Advisors. Given how quickly everything has developed with the PPP, it is important to take the time to plan for how you will comply with forgiveness requirements. The earlier you bring in your financial and legal advisors, the greater chance you have of making the most of your PPP funds.Danielle Crane is an employment lawyer with Kegler Brown, advising clients on human capital strategies to help navigate the COVID-19 pandemic and prepare for re-opening. She can be reached directly at dcrane@keglerbrown.com or (614) 462-5444.Brendan Feheley is a director and chair of Kegler Brown’s Labor + Employment practice where he is working with business owners and their HR leaders to navigate the COVID-19 pandemic. He can be reached directly at bfeheley@keglerbrown.com or (614) 462-5482.

E-mployment Alert
publication

Are Ohio’s Commercial Landlords and Lenders Now Required to Give a 90-day Reprieve?

Smart Summary Governor DeWine issued an executive order requesting landlords to suspend commercial rent payments for at least 90 days. The Order also urges lenders to offer a similar reprieve to their landlord borrowers. The Order is not legally binding, though more forceful language could potentially be forthcoming. Since the COVID-19 crisis began, we’ve been fielding calls and e-mails from clients on both sides of the commercial landlord-tenant relationship.  Tenants negatively affected by the crisis want some sort of relief from their landlords in terms of a rent abatement or forbearance, and landlords are receiving a crippling volume of these requests from their tenants. Typically, there is no legal ground to require a landlord to grant an abatement or deferral request, but from a practical standpoint, it still may make sense for them to work with commercial tenants if the alternative is for those tenants to permanently close their doors. At the same time, it’s also important to recognize that landlords may be caught between a rock and hard place. Most are still required to make mortgage payments and pay taxes, common area maintenance costs and other expenses, without receiving rent from their commercial tenants. Each side may also put the responsibility on the other to attempt to obtain relief from federal sources, including the SBA’s Economic Injury Disaster Loan program and the Paycheck Protection Program provision of the recently passed CARES Act. To date, however, there hasn’t been an across-the-board standard or a one-size-fits-all approach for negotiations between commercial landlords and tenants dealing with the effects of COVID-19.Governor DeWine Opines with an Executive Order In an attempt to provide some relief for both sides, Governor Mike DeWine issued Executive Order 2020-08D on April 1, urging Ohio landlords to suspend rent payments and evictions for at least 90 days for small-business tenants experiencing “financial hardship due to the COVID-19 pandemic.” Accordingly, to assist those landlords who would then be at risk of defaulting on their own mortgages, the Order also requests that lenders agree to a minimum 90-day forbearance and refrain from enforcing default penalties or initiating foreclosures during that period. The Order specifies, however, that the governor is not requesting a rent abatement under the leases, nor forgiveness of mortgage payments, just a delay in collections instead.Interpretation: Request or Requirement? While the language may not be entirely clear, our interpretation of this Order is that it is a request, not a requirement , and that landlords and lenders alike are not currently legally obligated to comply. However, we think it’s unlikely that a court in Ohio is going to take up a foreclosure action at this time. Given the rapidly evolving pace of change right now, it’s certainly possible for Governor DeWine to sign a more forceful Order before this situation is over. Regardless, this Order may provide a new baseline for negotiations between landlords and tenants as they navigate through the COVID-19 crisis. Michael Schottenstein is an associate attorney in Kegler Brown’s Real Estate + Finance practice. He represents both commercial landlords and tenants in the drafting and negotiation of leases, amendments and works with clients in the context of their more general business operations. Michael can be reached at mschottenstein@keglerbrown.com or (614) 462-5451.

Firm Highlights