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Risks of a generation change - advantages of planned wealth transfer

Whether we are talking about a generation change within a family or the selling of a company, a customized structure serving the security of company assets and ensuring the continued operation of the company should be developed. An unregulated transfer of a company or wealth brings the risk of a reduction in value. The key is therefore conscious organization development and timely started preparation.

Generation change may mostly be a matter to consider simply due to the age of the founders but "COVID-exposure" has highlighted that unexpected death or other events in founders' lives may also lead to them not being able to continue managing their companies. How can the management of a business be handed over seamlessly after completing a life's work? An increasing number of business owners are preparing for a successful transfer consciously through the years. 

Conditions of planning successful succession

All company histories are unique and there is no precise recipe but there are a few factors that are, in most cases, essential for a successful generation change. 

A business strategy is a must

Succession planning is a long-term process. Therefore, a key element of preparation is for the owner to have a vision, purpose, business strategy defining the future operation of the enterprise, which serves as guidance for the founders and which ideally is also embraced by the successors. 

Independently operating management and organization

An important element of successful company handover is for the company to have an organization, management operating independently, i.e. without constant intervention by the first-generation founder that is able to take care of day-to-day operation independently and where managers have clearly defined powers in a transparent organizational structure. If during a two-week holiday, the founder is contacted by employees on matters such as where to order office supplies from or where to take the company car for repair, we can be certain that there is no independent management. 

In many cases, the company may only be represented by the founder as the sole executive. If in the case of such a company, the founder is incapacitated, the company practically becomes paralyzed as it has no managing director who may make declarations, dispose of the company's bank account, transfer taxes, or sign contracts. Also, until the transfer of the estate (which may take many months or even years if there is a dispute),it is also uncertain who the heirs will be and the heirs may perhaps be minors, in which case the main body (members' meeting, general meeting) will not be able to appoint a new manager, make any decisions of substance or accept financial statements. 

For this reason, the most straightforward solution is if, still in the lifetime of the founder, one or more other persons or perhaps a body (e.g. a board of directors) is appointed to act as executives. A number of instruments is available for the restriction of powers and to maintain control. Executive powers may be restricted in the deed of foundation in respect of certain affairs or value limits or approval by the main body may be required for these (e_.g. the managing director may not sign contracts generating an obligation of over one hundred million forints for the company or contracts disposing of the company's real estate without the approval of the main body). 

Independent and transparent management that is, however, under proper control not only reduces the risk of interruption in business if the founder dies but may also serve as a value increasing factor if the persons concerned decide the sell the company instead of succession within the family. 

Carefully considered articles of association

The regulation of the succession of the company in the deed of the foundation is critical. In the case of a limited liability company, the articles of association may, subject to the terms and conditions defined therein, authorize various persons to decide on the purchase of the quota forming part of the estate provided that the market value of the quota is paid to the heir within a certain deadline. The principles based on which the market value of the company's quota is determined should be defined (in the articles of association) with the involvement of an expert. 

Different rules apply to the inheritance of participations depending on company form, therefore, under normal circumstances, quota in a limited liability company and shares in a company limited by shares are inherited differently. We must mention that not only rights but obligations are transferred to the heir also in relation to the inherited quota. If there is more than one heir, it must be noted that joint ownership is created. If there is joint ownership, the heirs qualify as one member vis-a-vis the company and may exercise their rights through a joint representative elected from themselves and are liable for the obligations of the member on a joint and several bases.

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For substantial company assets: fiduciary trusts or wealth management trusts

The purpose of the concepts of both fiduciary trusts and wealth management trusts is the transfer of wealth from one generation to the next (wealth protection) although both may be applied for investment purposes only also. 

Fiduciary trusts

If the company's assets are substantial, fiduciary trusts, laid down either in the form of a contract or as part of the founder's last will, is a more costly but exceptionally efficient and customizable solution for keeping the transfer of wealth from one generation to the next at bay and influencing the times that come after the founder's death (for up to 50 years) (or for handling situations of incapacitation of the founder). 

In fiduciary trusts, the settlor founder transfers the ownership of the participation to a trustee, who is obliged to manage it in its own name but to the benefit of the beneficiaries according to the founder's instructions. The founder himself may also be the trustee determining for the case of his own death who may be appointed as trustee (without a succession proceeding). 

Wealth management trust

A similar wealth management solution, however, offering company owners even more complex opportunities than a fiduciary trust agreement is a wealth management trust. The latter may be established for the management of the wealth provided by the founder and the deriving incomes and for the fulfillment of the tasks specified in the deed of foundation and providing a financial benefit to the beneficiaries. In the case of a wealth management trust, there is a statutory minimum to the capital placed in the trust, it must be at least 600 million forints, and, in this case, also, the ownership of the wealth is transferred with the trust becoming the owner of the wealth managed. 

A wealth management trust is an organization of multiple levels: its management is the responsibility of the board of trustees and appointment of a supervisory board or a wealth controller is also necessary for the overseeing of wealth management and an auditor must also be elected. 

Both the minimum capital and the organizational structure show that this solution offers even more sophisticated opportunities than fiduciary trusts and it may be particularly suitable in cases where the size of the wealth allows for purposes of material public interest to be served within the framework of the trust organization. 

Although succession planning is still commonly thought of mainly as inheritance within the family, transfer within an organization, management buy-out, selling of the company or listing on the stock exchange should also be considered as possibilities. There is no general solution but one thing is for certain: succession planning requires tax and legal knowledge!

Change is inevitable and consciously planned generation change is a value increasing factor. Preparation may take years but with a carefully planned and laid foundation, implementation can be smooth. Company owners and heirs should involve experts not only because of their expertise and experience but also to have an external, objective perspective also, which may make the handling of potential differences of opinion within the family easier also.

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