Organization of Transfers of Small and Medium-Sized Enterprises Within the Family: Tax Law Considerations

Abstract

The succession process of small to medium enterprises (SMEs) creates lifelong dilemmas for entrepreneurs. Who would like to be reminded of his or her imminent mortality by the children's claim on the family company? One way to enhance the value of an enterprise is to ensure that family ownership remains, since this will preserve idiosyncratic knowledge. However, there are several important considerations of a transaction-cost character that hamper the transfer of ownership of the firm. Especially, considerations of tax consequences can make it very complicated to plan a transfer of the ownership of a SME during the lifetime of the owner. Sweden serves as an interesting illustration of the implications of different tax laws on the choice of succession arrangement since it recently decided to abolish the gift and inheritance tax starting January 1, 2005. This article reports on the tax-induced contractual difficulties. These difficulties are compared with the relatively less complicated situation that occurs when a country such as Sweden abolishes taxes on inheritance and gifts. Case vignettes are used to illustrate the legal dimension of transfer of ownership. A number of recommendations are provided for how to enhance the family succession process of SMEs. A case study supports these findings.