As a business owner, you invest considerable time, energy, and resources into building a successful company. Now, as you plan for the future, it is essential to explore strategies that protect your wealth and secure your family’s financial legacy.
While it may not be the right fit for every business owner, gifting shares of your closely held stock, particularly in advance of a sale, is an impactful strategy that could offer significant tax savings and the opportunity to pass on your legacy in a more efficient manner.
Why Consider Pre-Sale Gifting?
Also referred to as a closely held business, closely held stock refers to shares of a private company that are owned by a small group of investors, often family members or close associates.
By gifting shares, you are removing the value and future growth of the stock from your taxable estate.
“If you have a net worth of more than $27 million, your family will likely face federal estate tax exposure,” said Megan Trask, Partner and Managing Advisor at Connecticut Wealth Management (CTWM). Without a comprehensive strategy, this could result in a sizeable tax liability for you and your family.
In 2024, estates valued at more than $27.22 million for married couples and $13.61 million for individuals are subject to a federal tax rate of up to 40%. Connecticut, as well as other states, levies an estate tax at the state level.
Heather J. Rhoades, Chairman of the Private Clients Group at Cummings & Lockwood LLC, shared her perspective on why business owners should consider acting on this strategy now.
“These thresholds are set to sunset on January 1, 2026, making now the ideal time to take advantage of these higher exemption amounts given the impending changes,” said Rhoades.
Maximizing Tax Efficiency & Enhancing Your Estate Plan
“Pre-sale gifting helps to minimize your potential tax liability because the IRS allows valuation discounts for privately held stock,” said Trask.
Unlike a public company, you cannot trade shares of a closely held business on the public stock exchange resulting in a lack of liquidity. Gifting a non-controlling, minority interest may also reduce the business valuation for purposes of the gift.
Consider gifting shares to an irrevocable trust that your family continues to benefit from.
“By gifting stock to an irrevocable trust, business owners can shield these assets from future creditors and potential divorce settlements, ensuring they remain within the family,” said Rhoades. “This strategy is particularly advantageous in light of the current tax landscape, where estate tax exemptions are subject to change.”
The value of the business may continue to grow within the trust, benefiting future generations while minimizing tax liabilities. This is what makes this such a unique opportunity for business owners – the ability to take a discount when making the gift and then the growth occurring outside of the estate.
“We just helped a client where this strategy should ultimately save their family $20 million in estate taxes,” said Trask. “An important thing to be mindful of when gifting to a trust is that you should only give what you don’t need to sustain your current lifestyle and future needs.”
While there are significant benefits, it is important to also consider the potential risks and challenges.
Potential Risks & Challenges
The Internal Revenue Service (IRS) may audit and challenge the value of your business when shares are gifted. This can be conducted within three years of filing.
“To mitigate this risk, we typically recommend that the sale of the business happens 1 to 2 years out from when the gifting happens,” said Trask. “It’s also important to keep in mind that there should be no intent to sell the business before gifting.”
Rhoades emphasized, “The safest approach to timing is to make the gift before any discussions regarding a possible sale begin. At some point it is too late to use a discounted value of the business for gifting purposes. For example, if there’s already an agreement in place for sale.”
Additionally, there are upfront costs associated with conducting a business valuation and attorney fees. “A thorough and accurate business valuation is critical to effectively mitigate this audit risk,” said Rhoades.
Hiring a licensed business appraiser will ensure the valuation report discloses the methodologies used, the reasoning for discounts, and other key information required by the IRS. Careful documentation is critical to avoid triggering IRS scrutiny, according to Rhoades.
How can a Financial Planner Help?
Successfully implementing a pre-sale gifting strategy requires a team approach. Financial planners and estate attorneys work together to ensure that every aspect of the gifting process—from business valuation to the final transfer of shares—complies with IRS regulations and maximizes the benefits for your family.
“Our role is to provide clarity on the impact your gifting has on your finances,” said Trask. Connecticut Wealth Management’s top priority is to help you sustain your lifestyle and, at the same time, achieve your legacy planning goals.
We provide context surrounding your estate tax liability in a rapidly changing legislative world while always being an advocate for your best interests. CTWM’s experienced advisors can recommend strategies to optimize your individual tax situation, enhance your estate plan, and shape your legacy for future generations.
Interested in learning more about whether a pre-sales gifting strategy is right for you? Get started now by talking with one of our advisors about the value of your business. Contact us now.