Should the surviving spouse own the family business?

Often in a family business, the founder's spouse takes care of matters at home or works elsewhere. If the children come into the business, the plan is usually to cultivate them to be successors and ultimately sell or gift the business to them in time for the founder and spouse to enjoy a comfortable retirement.

But what if the founder dies before retirement? Should the children run the business while the surviving spouse continues to own it? Or should ownership pass directly to the children?

Think of your own situation. If you die leaving enough assets for your surviving spouse to live comfortably, she may be able to sell or gift the business to your children immediately. What if, however, your surviving spouse wants to continue control of the business even if she does not need it for financial security.

Your surviving spouse may want to have control over a situation that greatly impacts the children and your family. For example, if you die before carrying out your succession plan, there may be confusion as to who you wanted to be your successor. Or, children who were not active in the business may now become involved.

Sometimes, surviving spouses decide to continue to own businesses because they have become interested in being a part of the daily operations, or because they believe they have business acumen and want to use it. This may not be in the best interest of the business or the children.

Tax considerations

The reason a surviving spouse may have for continuing to own the business are generally not tax motivated. If ownership is acquired from the deceased spouse, there will be a step up in basis to fair market value at death. But the step up in basis is usually not helpful because typically you must sell or liquidate the business to gain the benefit. Keeping the company ownership in the name of the surviving spouse to get a step up in basis at her death is often not a wise decision.

And, the longer a surviving spouse owns the business, the less beneficial the arrangement will be for the children. While the children work to maintain and increase the value of the company, its growth will remain in the parent's estate. The children may see a large amount of the increase in value go to estate taxes.

Using trusts to avoid or solve problems

There may be situations where ownership by the surviving spouse appears to be detrimental to the business. This may be because there are not enough funds in the estate for the spouse to live comfortably, or the value of the business is so large that too much tax would be paid on the first death to allow ownership by anyone other than the spouse.

But, there may be solutions to these estate tax problems. These are usually found in the form of trusts. An interest in the family business can be held in trust for the benefit of the surviving spouse without giving that person control over the business.

It is common for a business to be owned in a qualified terminable interest property (QTIP) trust for the benefit of the surviving spouse to defer the payment of estate tax. The trustee of the QTIP is usually not the spouse, so voting control does not rest with the spouse. This allows a trustee to make decisions about running the business.

A trustee should have the best interests of the spouse in mind and have few things to say about running the business. If the income continues with regularity, the trustee will most likely have no objections as to how the business is run. In addition, since the trustee was handpicked by the founder, he is most likely to follow the wishes of the founder.

Consider all possibilities

Just because the surviving spouse did not work in the business doesn't mean he or she will make a bad owner. But there is a chance that this setup will cause problems for the business and threaten its survival. Finally, the tax implications are generally more favorable if the ownership can be transferred as early as possible.

Try to consider everything that could happen to your family and business if you were to die unexpectedly. Then devise a plan to take care of the issues. Our experienced consultants would be glad to help safeguard your company.

Melvin J. Van de Ven, CPA, CVA is a partner in the certified public accounting firm of Schott & Van de Ven, 1020 N. Kingshighway, Suite D, Cape Girardeau. He can be reached by email at mvandeven@schottvandeven.com.